Introduction
In the previous chapters, we have looked at the basic income tax computation
and the taxation of investments.
Most people have jobs, which pay them wages or salaries. They may also get
other benefits from their employers and/or they may pay expenses connected
with their employment. In this chapter, we see how to work out the basic
employment income they must pay tax on.
We also look at national insurance contributions payable in respect of
employees.
We conclude with a study of the rules for personal service companies, where
the taxpayer is deemed to receive employment income even if he has routed his
services through a company.
In the next chapter, we will look at share options and share incentives, and at
lump sum receipts.
Study guide
| Intellectual level | ||
| 1 | Income and income tax liabilities in situations involving further overseas aspects and in relation to trusts, and the application of exemptions and reliefs | |
| (a) | The contents of the Paper F6 study guide for income tax and national insurance, under headings: | 2 |
| | B2 Income from employment | |
| | B6 National insurance contributions for employed and self-employed persons | 2 |
| (c) | Income from employment: | 3 |
| (iv) | Identify personal service companies and advise on the tax consequences of providing services via a personal service company | |
| 4 | Corporation tax liabilities in situations involving further overseas and group aspects and in relation to special types of company, and the application of additional exemptions and reliefs | |
| (b) | The scope of corporation tax | 3 |
| (vi) | Identify personal service companies and advise on the tax consequences of services being provided via a personal service company |
Exam guide
In the exam, you may get a question which asks you to compare the after tax income from one benefit package with another, or the salary foregone in a salary sacrifice scheme. As well as calculating the marginal tax on the benefit provided or foregone, remember to take into account other costs. For example, an employee who chooses to receive a higher salary and use his own car for business will have to bear the running costs of the car as well as the capital depreciation. Don’t forget national insurance!
With the exception of the rules for personal service companies, this chapter is revision of your Paper F6 studies. The examination team has identified essential underpinning knowledge from the F6 syllabus which is particularly important that you revise as part of your P6 studies. In this chapter, the relevant topic is:
Intellectual level
B2 Income from employment
(h) Explain and compute the amount of benefits assessable 2
There are some changes in 2015/16 from the material covered in F6 in 2014/15. The official rate of interest is 3%. The base percentage for car benefit for cars with CO2 emissions of 95g/km has been increased to 14%. There are three flat rate percentages for cars with CO2 emissions less than 95g/km. The maximum percentage has been increased to 37% for both petrol and diesel cars. The fuel benefit base figure has increased to £22,100. The van benefit and fuel benefit for private use of vans have both increased to £3,150 and £594 respectively. There is a new exempt benefit for certain medical treatment paid for by an employer. For Class 1 NICs the thresholds for primary (employee) contributions and secondary (employer) contributions have increased and the upper earnings limit has also increased.
1 Employment income
1.1 Outline of the charge
One of the competencies you require to fulfil Performance Objective 17 Tax planning and advice of the PER is to review the situation of an individual or entity advising on any potential tax risks and/or additional tax minimisation measures. You can apply the knowledge you obtain from this section of the text to help to demonstrate this competence.
Employment income includes income arising from an employment under a contract of service (see below) and the income of office holders, such as directors. The term ’employee’ is used in this Text to mean anyone who receives employment income (ie both employees and directors).
There are two types of employment income:
• General earnings, and • Specific employment income.
General earnings are an employee’s earnings (see key term below) plus the ‘cash equivalent’ of any taxable non-monetary benefits.
Key term ‘Earnings’ means any salary, wage or fee, any gratuity or other profit or incidental benefit obtained by the employee if it is money or money’s worth (something of direct monetary value or convertible into direct monetary value) or anything else which constitutes an emolument of the employment.
‘Specific employment income’ includes payments on termination of employment and share related income. This type of income is covered in the next chapter of this Text.
The residence and domicile status of an employee determines whether earnings are taxable. If an employee is resident and domiciled in the UK, taxable earnings from an employment in a tax year are the general earnings received in that tax year. The rules relating to other employees are dealt with later in this Text.
1.2 When are earnings received? 12/12, 6/13
FAST FORWARD
General earnings are taxed in the year of receipt. Money earnings are generally received on the earlier of the time payment is made and the time entitlement to payment arises. Non-money earnings are generally received when provided.
General earnings consisting of money are treated as received at the earlier of:
• The time when payment is made
• The time when a person becomes entitled to payment of the earnings.
If the employee is a director of a company, earnings from the company are received on the earliest of:
• The earlier of the two alternatives given in the general rule (above)
• The time when the amount is credited in the company’s accounting records • The end of the company’s period of account (if the amount was determined by then)
• The time the amount is determined (if after the end of the company’s period of account).
Taxable benefits are generally treated as received when they are provided to the employee.
The receipts basis does not apply to pension income or taxable social security benefits. These sources of income are taxed on the amount accruing in the tax year, whether or not it is received in that year.
John is a director of X Corp Ltd. His earnings for 2015/16 are:
Salary £60,000
Taxable benefits £5,000
For the year ended 31 December 2015 the Board of Directors decide to pay John a bonus of £40,000. This is decided on 1 March 2016 at a board meeting and credited in the company accounts 7 days later. However John only received the bonus in his April pay on 30 April 2016.
What is John’s employment income for 2015/16?
£
Salary 60,000
Taxable benefits 5,000 Bonus (1.3.16) 40,000
Employment income 105,000
The salary and benefits were paid/made available during 2015/16 and so are taxable in 2015/16. The bonus was paid/made available on 30 April 2016 (2016/17) but was determined after the company’s year end (31.12.15) by the board meeting on 1 March 2016 (2015/16) – and so is taxable in 2015/16 as this is the earliest of the relevant dates.
1.3 Net taxable earnings
Net taxable earnings of a tax year are total taxable earnings less total allowable deductions (see below). Deductions cannot usually create a loss: they can only reduce the net taxable earnings to nil.
1.4 Person liable for tax on employment income
The person liable to tax on employment income is generally the person to whose employment the earnings relate. However, if the tax relates to general earnings received after the death of the person to whose employment the earnings relate, the person’s personal representatives are liable for the tax. The tax is a liability of the deceased person’s estate.
1.5 Employment and self employment 9/15
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Employment involves a contract of service whereas self employment involves a contract for services.
1.5.1 Introduction
The distinction between employment (receipts taxable as earnings) and self employment (profits taxable as trading income) is not easy to determine. Employment involves a contract of service, whereas self employment involves a contract for services. Taxpayers tend to prefer self employment, because the rules on deductions for expenses are more generous. A worker’s status also affects national insurance: the self-employed generally pay less than employees.
1.5.2 Factors indicating employment
• The degree of control exercised over the person doing the work (a high level of control indicates employment)
• Whether the worker must accept further work if offered (if yes, indicates employment)
• Whether the person who has offered work must provide further work (if yes, indicates employment)
• Whether the worker is entitled to employment benefits such as sick pay, holiday pay and pension facilities (entitlement indicates employment)
• Whether the worker works for just one person or organisation (such working indicates employment)
1.5.3 Factors indicating self-employment
• Whether the worker provides his own equipment (if yes, indicates self-employment)
• Whether the worker hires his own helpers (if yes, indicates self-employment)
• What degree of financial risk the worker takes (if high risk, indicates self-employment)
• What degree of responsibility for investment and management the worker has (if most of responsibility is the worker’s, indicates self-employment)
• Whether the worker can profit from sound management (if can do so, indicates self-employment)
• Whether the worker can work when he chooses (if can do so, indicates self-employment)
• Whether the worker works for a number of different persons or organisations (such working indicates self-employment)
1.5.4 Wording of agreement
The wording used in any agreement between the worker and the person for whom he performs work may also be taken into account. For example, if the contract is described as a contract for services, this would suggest that the worker is self employed. However, such wording is not conclusive about the actual legal relationship and other factors may show that the contract is, in fact, a contract of service.
1.5.5 Case law
Relevant cases on the distinction between employment and self-employment include:
(a) Edwards v Clinch 1981
A civil engineer acted occasionally as an inspector on temporary ad hoc appointments.
Held: there was no ongoing office which could be vacated by one person and held by another so the fees received were from self employment not employment.
(b) Hall v Lorimer 1994
A vision mixer was engaged under a series of short-term contracts.
Held: the vision mixer was self employed, not because of any one detail of the case but because the overall picture was one of self-employment.
(c) Carmichael and Anor v National Power plc 1999
Individuals engaged as visitor guides on a casual ‘as required’ basis were not employees. An exchange of correspondence between the company and the individuals was not a contract of employment as there was no provision as to the frequency of work and there was flexibility to accept work or turn it down as it arose. Sickness, holiday and pension arrangements did not apply and neither did grievance and disciplinary procedures.
2 Taxable benefits
2.1 Introduction 6/12, 6/13, 12/13, 6/14, 6/15, 12/15
FAST FORWARD
Most employees are taxed on benefits under the benefits code. ‘Excluded employees’ (lower paid/nondirectors) are only subject to part of the provisions of the code.
The Income Tax (Earnings and Pensions) Act 2003 (ITEPA 2003) provides comprehensive legislation covering the taxation of benefits. The legislation generally applies to all employees. However, only certain parts of it apply to ‘excluded employees’
Key term
An excluded employee is an employee in lower paid employment who is either not a director of a company or is a director but has no material interest in the company (‘material’ means control of more than 5% of the ordinary share capital) and either:
(i) He is full time working director, or
(ii) The company is non-profit-making or is established for charitable purposes only.
The term ‘director’ refers to any person who acts as a director or any person in accordance with whose instructions the directors are accustomed to act (other than a professional advisor).
Lower paid employment is one where earnings for the tax year are less than £8,500. To decide whether this applies, add together the total earnings and benefits that would be taxable if the employee were not an excluded employee.
A number of specific deductions must be taken into account to determine lower paid employment. These include contributions to registered pension schemes and payroll giving. However, general deductions from employment income (see later in this chapter) are not taken into account. Where a car is provided but the employee could have chosen a cash alternative, then the higher of the cash alternative and the car benefit should be used in the computation of earnings to determine whether or not the employee is an excluded employee.
Tim earns £6,500 per annum working part time as a sales representative at Chap Co Ltd. The company provides the following staff benefits to Tim:
Private health insurance £300
Company car £1,500
Expense allowance £2,000
Tim used £1,900 of the expense allowance on business mileage petrol. Is Tim an excluded employee?
No. Although Tim’s taxable income is less than £8,500 this is only after his expense claim. The figure to consider and compare to £8,500 is £10,300 as shown below:
£
Salary 6,500
Benefits: health insurance 300 car 1,500 expense allowance 2,000
Earnings to consider if Tim is lower paid 10,300
Less claim for expenses paid out (1,900)
Employment income 8,400
Employees, including directors, who are not excluded employees may be referred to as ‘P11D employees’. The P11D is the form that the employer completes for each such employee with details of expenses and benefits.
2.2 General business expenses
If business expenses, on such items as travel or hotel stays, are reimbursed by an employer, the reimbursed amount is a taxable benefit for employees other than excluded employees. To avoid being taxed on this amount, an employee must then make a claim to deduct it as an expense under the rules set out below. In practice, however, many such expense payments are not reported to HMRC and can be ignored because it is agreed in advance that a claim to deduct them would be possible (a P11D dispensation).
When an individual has to spend one or more nights away from home, their employer may reimburse expenses on items incidental to their absence (for example meals and private telephone calls). Such incidental expenses are exempt if:
(a) The expenses of travelling to each place where the individual stays overnight, throughout the trip, are incurred necessarily in the performance of the duties of the employment (or would have been, if there had been any expenses).
(b) The total (for the whole trip) of incidental expenses not deductible under the usual rules is no more than £5 for each night spent wholly in the UK and £10 for each other night. If this limit is exceeded, all of the expenses are taxable, not just the excess. The expenses include any VAT.
This incidental expenses exemption applies to expenses reimbursed, and to benefits obtained using credit tokens and non-cash vouchers.
2.3 Vouchers
If any employee (including an excluded employee):
(a) receives cash vouchers (vouchers exchangeable for cash), or
(b) uses a credit token (such as a credit card) to obtain money, goods or services, or (c) receives exchangeable vouchers (such as book tokens), also called non-cash vouchers the employee is taxed on the cost to the employer of providing the voucher or the use of the credit token, less any amount paid by the employee to the employer.
Where a voucher is provided for a benefit which is exempt from income tax, the provision of the voucher itself is also exempt.
2.4 Accommodation
The benefit in respect of accommodation is its annual value. There is an additional benefit if the property cost the employer over £75,000.
FAST FORWARD
The taxable value of accommodation provided to an employee (including an excluded employee) is the rent that would have been payable if the accommodation had been let at an amount equal to its annual value (generally taken to be its rateable value). If the accommodation is rented rather than owned by the employer, then the taxable benefit is the higher of the rent actually paid and the annual value. If accommodation does not have a rateable value, a value is estimated by HMRC.
If the accommodation cost the employer more than £75,000, an additional amount is chargeable:
(Cost of providing the accommodation – £75,000) the official rate of interest at the start of the tax year.
Formula to learn
Thus with an official rate of 3%, the total benefit for accommodation costing £95,000 and with an annual value of £2,000 would be £2,000 + £(95,000 75,000) 3% = £2,600.
The ‘cost of providing’ the accommodation is the aggregate of the cost of purchase and the cost of any improvements made before the start of the tax year for which the benefit is being computed. It is therefore not possible to avoid the charge by buying an inexpensive property requiring substantial repairs and improving it.
If the accommodation was acquired more than six years before first being provided to the employee, the market value when first provided plus the cost of subsequent improvements is used as the cost of providing it. However, unless the actual cost plus improvements to the start of the tax year in question exceeds £75,000, the additional charge cannot be imposed, however high the market value. In addition, the additional charge can only be imposed if the employer owns (rather than rents) the accommodation concerned.
Exam focus The ‘official rate’ of interest will be given to you in the exam. point
There is no taxable benefit in respect of job related accommodation.
Key term
A person lives in job-related accommodation if:
(a) It is necessary for the proper performance of the employee’s duties (as with a caretaker), or
(b) It is provided for the better performance of the employee’s duties and the employment is of a kind in which it is customary for accommodation to be provided (as with a policeman), or
(c) There is a special threat to the employee’s security, and use of the accommodation is part of security arrangements
Directors can only claim exemptions (a) or (b) if:
(i) They have no material interest (‘material’ means over 5%) in the company, and
(ii) Either they are full time working directors or the company is non-profit making or is a charity.
Any contribution paid by the employee is deducted from the annual value of the property and then from the additional benefit.
2.5 Expenses connected with living accommodation
In addition to the benefit of living accommodation itself, employees, other than excluded employees, are taxed on related expenses paid by the employer, such as:
(a) Heating, lighting or cleaning the premises,
(b) Repairing, maintaining or decorating the premises,
(c) The provision of furniture (the annual value is 20% of the cost).
Unless the accommodation qualifies as ‘job related’ (as defined above) the full cost of these ancillary services (excluding structural repairs) is taxable. If the accommodation is ‘job related’, however, taxable ancillary services are restricted to a maximum of 10% of the employee’s ‘net earnings’.
For this purpose, net earnings are all earnings from the employment (excluding the ancillary benefits (a)-(c) above) less any allowable expenses, statutory mileage allowances, contributions to registered occupational pension schemes (but not personal pension schemes), and capital allowances.
If there are ancillary benefits other than those falling within (a)-(c) above (such as a telephone) they are taxable in full.
Quinton has a gross salary in 2015/16 of £28,850. He works as head of security for a company with a large office in London. He is required to live in a company house adjoining his employer’s office, so that he can carry out his duties. The house cost £170,000 three years ago and its annual value is £650. In 2015/16 the company pays an electricity bill of £550, a gas bill of £400, a gardener’s bill of £750 and redecoration costs of £1,800. Quinton makes a monthly contribution of £50 for his accommodation. He also pays £1,450 occupational pension contributions each year.
Calculate Quinton’s employment income for 2015/16.
£ £
Salary 28,850
Less occupational pension scheme contributions (1,450)
Net earnings 27,400
Accommodation benefits
Annual value: exempt (job related)
Ancillary services
Electricity 550
Gas 400
Gardener 750
Redecorations 1,800
3,500
Restricted to 10% of £27,400 2,740
Less employee’s contribution (600)
2,140
Employment income 29,540
2.6 Cars 6/12
FAST FORWARD
Employees who have a company car are taxed on a % of the car’s list price which depends on the level of the car’s CO2 emissions. The same % multiplied by £22,100 determines the benefit where private fuel is also provided. Authorised mileage allowances can be paid tax free to employees who use their own vehicle for business journeys.
A car provided by reason of the employment to an employee, or member of his family or household, for private use gives rise to a taxable benefit. This does not apply to excluded employees. ‘Private use’ includes home to work travel.
(a) A tax charge arises whether the car is provided by the employer or by some other person. The benefit is computed as shown below, even if the car is taken as an alternative to another benefit of a different value.
(b) The starting point for calculating a car benefit is the list price of the car (plus accessories). The percentage of the list price that is taxable depends on the car’s CO2 emissions.
(c) The price of the car is the sum of the following items.
(i) The list price of the car for a single retail sale at the time of first registration, including charges for delivery and standard accessories. The manufacturer’s, importer’s or distributor’s list price must be used, even if the retailer offered a discount. A notional list price is estimated if no list price was published.
(ii) The price (including fitting) of all optional accessories provided when the car was first provided to the employee, excluding equipment needed by a disabled employee. The extra cost of adapting or manufacturing a car to run on road fuel gases is not included.
(iii) The price (including fitting) of all optional accessories fitted later and costing at least £100 each, excluding equipment needed by a disabled employee. Such accessories affect the taxable benefit from and including the tax year in which they are fitted. However, accessories which are merely replacing existing accessories and are not superior to the ones replaced are ignored. Replacement accessories which are superior are taken into account, but the cost of the old accessory is then deducted.
(d) There is a special rule for classic cars. If the car is at least 15 years old (from the time of first registration) at the end of the tax year, and its market value at the end of the year (or, if earlier, when it ceased to be available to the employee) is over £15,000 and greater than the price found under (c), that market value is used instead of the price. The market value takes account of all accessories (except equipment needed by a disabled employee).
(e) Capital contributions are payments by the employee in respect of the price of the car or accessories. In any tax year, account is taken of deductible capital contributions up to £5,000; contributions beyond that total are ignored.
(f) For cars that emit CO2 of 95 g/km (2015/16), the taxable benefit is 14% of the car’s list price. This percentage increases by 1% for every 5g/km (rounded down to the nearest multiple of 5) by which CO2 emissions exceed 95g/km up to a maximum of 37%. Therefore the 14% rate also applies to cars with emissions between 96g/km and 99g/km as these are rounded down to 95g/km. Then, for cars with emissions between 100g/km and 104g/km, the relevant percentage will be 14 + ((100 – 95)/5) = 15% etc.
Exam focus
point The CO2 baseline figure of 95g/km will and the baseline percentage of 14% be given to you in the tax rates and allowances section of the exam paper.
(g) For cars that emit CO2 between 76g/km and 94g/km, the taxable benefit is 13% of the car’s list price. For cars that emit between 51g/km and 75g/km, the taxable benefit is 9% of the car’s list price. For cars that emit 50 g/km or less, the taxable benefit is 5% of the car’s list price.
Exam focus
point The percentages for cars which emit CO2 up to 94g/km will be given to you in the tax rates and allowance section of the exam paper.
(h) Diesel cars have a supplement of 3% of the car’s list price added to the taxable benefit. The maximum percentage, however, remains 37% of the list price.
(i) The benefit is reduced on a time basis where a car is first made available or ceases to be made available during the tax year or is incapable of being used for a continuous period of not less than 30 days (for example because it is being repaired).
(j) The benefit is reduced by any payment the user must make for the private use of the car (as distinct from a capital contribution to the cost of the car). Payments for insuring the car do not count. The benefit cannot become negative to create a deduction from the employee’s income.
(k) Pool cars are exempt. A car is a pool car if all the following conditions are satisfied.
(i) It is used by more than one employee and is not ordinarily used by any one of them to the exclusion of the others, and
(ii) Any private use is merely incidental to business use, and
(iii) It is not normally kept overnight at or near the residence of an employee.
There are many ancillary benefits associated with the provision of cars, such as insurance, repairs, vehicle licences and a parking space at or near work. No extra taxable benefit arises as a result of these, with the exception of the cost of providing a driver.
2.7 Fuel for cars
Where fuel is provided there may be a further benefit in addition to the car benefit.
No taxable benefit arises where either
(a) All the fuel provided was made available only for business travel, or
(b) The employee is required to make good, and has made good, the whole of the cost of any fuel provided for his private use.
Unlike most benefits, a reimbursement of only part of the cost of the fuel available for private use does not reduce the benefit.
The taxable benefit is a percentage of a base figure. The base figure for 2015/16 is £22,100. The percentage is the same percentage as is used to calculate the car benefit (see above).
The fuel base figure will be given to you in the tax rates and allowances section of the exam paper.
Exam focus point
The fuel benefit is reduced in the same way as the car benefit if the car is not available for 30 days or more.
The fuel benefit is also reduced if private fuel is not available for part of a tax year. However, if private fuel later becomes available in the same tax year, the reduction is not made. If, for example, fuel is provided from 6 April 2015 to 30 June 2015, then the fuel benefit for 2015/16 will be restricted to just three months. This is because the provision of fuel has permanently ceased. However, if fuel is provided from 6 April 2015 to 30 June 2015, and then again from 1 September 2015 to 5 April 2016, then the fuel benefit will not be reduced since the cessation was only temporary.
An employee was provided with a new car costing £15,000 for the whole of 2015/16. The car emits 151g/km of CO2. During the year, the employer spent £900 on insurance, repairs and a vehicle licence. The employer paid for all petrol, costing £1,500, without reimbursement. The employee paid the employer £270 for the private use of the car. Calculate the taxable benefit.
Round CO2 emissions figure down to the nearest 5, ie 150 g/km.
Amount by which CO2 emissions exceed the baseline:
(150 – 95) = 55 g/km
Divide by 5 = 11
Taxable percentage = 14% + 11% = 25%
£
Car benefit £15,000 25% 3,750
Fuel benefit £22,100 25%
Less contribution towards use of car (270)
9,005
If the contribution of £270 had been towards the petrol the benefit would have been £9,275. This is because partial reimbursement of private petrol does not reduce the fuel benefit.
2.8 Vans and heavier commercial vehicles
If a van (of normal maximum laden weight up to 3,500 kg) is made available for an employee’s private use, there is an annual scale charge of £3,150. The scale charge covers ancillary benefits such as insurance and servicing. Paragraphs 2.6 (i) and (j) above apply to vans as they do to cars.
There is, however, no taxable benefit where an employee takes a van home (ie uses the van for home to work travel) but is not allowed any other private use.
If the employer provides fuel for unrestricted private use, an additional fuel charge of £594 applies.
If a commercial vehicle of normal maximum laden weight over 3,500 kg is made available for an employee’s private use, but the employee’s use of the vehicle is not wholly or mainly private, no taxable benefit arises except in respect of the provision of a driver.
2.9 Statutory approved mileage allowances
A single approved mileage allowance for business journeys in an employee’s own vehicle applies to all cars and vans. There is no income tax on payments up to this allowance and employers do not have to report mileage allowances up to this amount. The allowance for 2015/16 is 45p per mile on the first 10,000 miles in the tax year with each additional mile over 10,000 miles at 25p per mile. The approved mileage allowance for employees using their own motor cycle is 24p per mile. For employees using their own pedal cycle it is 20p per mile.
If employers pay less than the statutory allowance, employees can claim tax relief up to that level.
The statutory allowance does not prevent employers from paying higher rates, but any excess will be subject to income tax. There is a similar (but slightly different) system for NICs, covered later in this chapter.
Employers can make income tax and NIC free payments of up to 5p per mile for each fellow employee making the same business trip who is carried as a passenger. If the employer does not pay the employee for carrying business passengers, the employee cannot claim any tax relief.
Sophie uses her own car for business travel. During 2015/16, Sophie drove 15,400 miles in the performance of her duties. Sophie’s employer paid her a mileage allowance. How is the mileage allowance treated for tax purposes assuming that the rate paid is:
(a) 40p a mile, or (b) 25p a mile?
(a)
£
Mileage allowance received (15,400 40p) 6,160 Less tax free [(10,000 45p) + (5,400 25p)] (5,850) Taxable benefit 310
£5,850 is tax free and the excess amount received of £310 is a taxable benefit.
(b)
£
Mileage allowance received (15,400 25p) 3,850
Less tax free amount [(10,000 45p) + (5,400 25p)] (5,850) Allowable deduction (2,000)
There is no taxable benefit and Sophie can claim a deduction from her employment income of £2,000.
2.10 Beneficial loans 6/14
FAST FORWARD
Taxable cheap loans are charged to tax on the difference between the official rate of interest and any interest paid by the employee.
2.10.1 Introduction
Employment related loans to employees (other than excluded employees) and their relatives give rise to a benefit equal to:
(a) Any amounts written off (unless the employee has died), and
(b) The excess of the interest based on an official rate prescribed by the Treasury, over any interest actually charged (‘taxable cheap loan’). Interest payable during the tax year but paid after the end of the tax year is taken into account, but if the benefit is determined before such interest is paid a claim must be made to take it into account.
The following loans are normally not treated as taxable cheap loans for calculation of the interest benefits (but are taxable for the purposes of the charge on loans written off).
(a) A loan on normal commercial terms made in the ordinary course of the employer’s money-lending business.
(b) A loan made by an individual in the ordinary course of the lender’s domestic, family or personal arrangements.
2.10.2 Calculating the interest benefit
There are two alternative methods of calculating the taxable benefit. The simpler ‘average’ method automatically applies unless the taxpayer or HMRC elect for the alternative ‘strict’ method. (HMRC normally only make the election where it appears that the ‘average’ method is being deliberately exploited.) In both methods, the benefit is the interest at the official rate minus the interest payable.
The ‘average’ method averages the balances at the beginning and end of the tax year (or the dates on which the loan was made and discharged if it was not in existence throughout the tax year) and applies the official rate of interest to this average. If the loan was not in existence throughout the tax year only the number of complete tax months (from the 6th of the month) for which it existed are taken into account.
The ‘strict’ method is to compute interest at the official rate on the actual amount outstanding on a daily basis. However, for exam purposes, it is acceptable to work on a monthly basis.
At 6 April 2015 a taxable cheap loan of £40,000 was outstanding to an employee earning £12,000 a year, who repaid £15,000 on 6 December 2015. The remaining balance of £25,000 was outstanding at 5 April 2016. Interest paid during the year was £550. What was the benefit under both methods for 2015/16?
Average method
£
Less interest paid (550)
Benefit 425
3% 975
Alternative method (strict method)
£
£40,000 8 (6 April – 5 December) 3% 800
1,050
Less interest paid (550)
Benefit 500
£25,000 (6 December – 5 April) 3% 250
HMRC could elect for the ‘strict’ method, although this is unlikely given the difference between the methods is relatively small and it does not appear that the ‘average’ method is being deliberately exploited.
2.10.3 The de minimis test
The benefit is not taxable if:
(a) The total of all taxable cheap loans to the employee did not exceed £10,000 at any time in the tax year, or
(b) The loan is not a qualifying loan and the total of all non-qualifying loans to the employee did not exceed £10,000 at any time in the tax year.
A qualifying loan is one on which all or part of any interest paid would qualify as deductible interest.
When the £10,000 threshold is exceeded, a benefit arises on interest on the whole loan, not just on the excess of the loan over £10,000.
When a loan is written off and a benefit arises, there is no £10,000 threshold: writing off a loan of £1 gives rise to a £1 benefit.
2.10.4 Qualifying loans
If the whole of the interest payable on a qualifying loan is eligible for tax relief as deductible interest, then no taxable benefit arises. If the interest is only partly eligible for tax relief, then the employee is treated as receiving earnings because the actual rate of interest is below the official rate. He is also treated as paying interest equal to those earnings. This deemed interest paid may qualify as a business expense or as deductible interest in addition to any interest actually paid.
Anna has an annual salary of £30,000, and two loans from her employer.
(a) A season ticket loan of £8,300 at no interest
(b) A loan, 90% of which was used to buy shares in her employee-controlled company, of £54,000 at
0.5% interest
What is Anna’s tax liability for 2015/16?
£
Salary 30,000
Season ticket loan: not over £10,000 0
Loan to buy shares £54,000 (3 0.5 = 2.5%) 1,350
Earnings 31,350
Less deductible interest deemed to be paid (£54,000 3% 90%) (1,458)
29,892
Less personal allowance (10,600)
Taxable income 19,292
Income tax
£19,292 20% 3,858
2.11 Other assets made available for private use
FAST FORWARD
20% of the value of assets made available for private use is taxable.
When assets are made available to employees or members of their family or household, the taxable benefit is the higher of 20% of the market value when first provided as a benefit to any employee and
the rent paid by the employer. The 20% charge is time-apportioned when the asset is provided for only part of the year. The charge after any time apportionment is reduced by any payment made by the employee.
Certain assets, such as bicycles provided for journeys to work, are exempt. These are described later in this chapter.
If an asset made available is subsequently acquired by the employee, the taxable benefit on the acquisition is the greater of:
• The current market value minus the price paid by the employee, and
• The market value when first provided minus any amounts already taxed (ignoring contributions by the employee) minus the price paid by the employee.
This rule prevents tax free benefits arising on rapidly depreciating items through the employee purchasing them at their low second-hand value.
There is an exception to this rule for bicycles which have previously been provided as exempt benefits. The taxable benefit on acquisition is restricted to current market value, minus the price paid by the employee.
2.12 Example: assets made available for private use
A suit costing £400 is purchased by an employer for use by an employee on 6 April 2014. On 6 April 2015 the suit is purchased by the employee for £30, its market value then being £50.
The benefit in 2014/15 is £400 20%
The benefit in 2015/16 is £290, being the greater of: £80
£
(a) Market value at acquisition by employee 50
Less price paid (30)
20
(b) Original market value 400
Less taxed in respect of use )
Less price paid )
Rupert is provided with a new bicycle by his employer on 6 April 2015. The bicycle is available for private use as well as commuting to work. It cost the employer £1,500 when new. On 6 October 2015 the employer transfers ownership of the bicycle to Rupert when it is worth £800. Rupert does not pay anything for the bicycle.
What is the total taxable benefit on Rupert for 2015/16 in respect of the bicycle?
Use benefit Exempt
Transfer benefit (use MV at acquisition by employee only)
MV at transfer £800
2.13 Scholarships
If scholarships are given to members an employee’s family, the employee is taxable on the cost unless the scholarship fund’s or scheme’s payments by reason of people’s employments are not more than 25% of its total payments.
2.14 Childcare 6/14
Workplace childcare is an exempt benefit. Employer-supported childcare and childcare vouchers are exempt up to £55 per week. Maximum tax relief is limited to £11 per week (the equivalent of £55 × 20%).
FAST FORWARD
The cost of running a workplace nursery or playscheme is an exempt benefit (without limit).
Otherwise a certain amount of childcare is tax free if the employer contracts with an approved childcarer or provides childcare vouchers to pay an approved childcarer. The childcare must usually be available to all employees and the childcare must either be registered or approved home-childcare.
A £55 per week limit applies to basic rate employees who use employer-supported childcare schemes or receive childcare vouchers. The amount of tax relief for a basic rate taxpayer is therefore £55 x 20% = £11 per week.
Higher rate and additional rate employees who use employer-supported childcare schemes or receive childcare vouchers have their tax relief restricted so that it is the equivalent of that received by a basic rate taxpayer. Higher and additional rate employees can therefore receive vouchers tax-free up to £28 per week and £25 per week respectively, each giving £11 of tax relief which is the same amount a basic rate taxpayer would receive.
Whether an employee is considered basic rate, higher rate or additional rate for these purposes, is determined by the level of the employee’s earnings only (and not other income). However, the examination team has stated that in an exam question involving childcare, it will be quite clear at what rate a taxpayer is paying tax.
Exam focus point
Archie is employed by M plc and is paid a salary of £80,000 in 2015/16. He starts receiving childcare vouchers from M plc worth £50 per week for his daughter in June 2015 and receives them for 26 weeks during 2015/16.
What is Archie’s employment income for 2015/16?
£
Salary (higher rate employee) 80,000
Childcare vouchers £(50 – 28) 26 weeks 572
Employment income 2015/16 80,572
2.15 Residual charge
FAST FORWARD
There is a residual charge for other benefits, usually equal to the cost of the benefits.
We have seen above how certain specific benefits are taxed. A ‘residual charge’ is made on the taxable value of other benefits. In general, the taxable value of a benefit is the cost of the benefit less any payment made by the employee to the persons providing the benefit.
The residual charge applies to any benefit provided for an employee or a member of the employee’s family or household, by reason of the employment. There is an exception where the employer is an individual and the provision of the benefit is made in the normal course of the employer’s domestic, family or personal relationships.
This rule does not apply to taxable benefits provided to excluded employees. These employees are taxed only on the second hand value of any benefit that could be converted into money.
3 Exempt benefits 6/13, 6/14, 12/15
FAST FORWARD
Some benefits are exempt from tax such as removal expenses and the provision of sporting facilities (subject to certain limits).
Various benefits are exempt from tax. These include:
(a) Entertainment provided to employees by genuine third parties (eg seats at sporting/cultural events), even if it is provided by giving the employee a voucher.
(b) Gifts of goods (or vouchers exchangeable for goods) from third parties (ie not provided by the employer or a person connected to the employer) if the total cost (including VAT) of all gifts by the same donor to the same employee in the tax year is £250 or less. If the £250 limit is exceeded, the full amount is taxable, not just the excess.
(c) Non-cash awards for long service if the period of service was at least 20 years, no similar award was made to the employee in the past 10 years and the cost is not more than £50 per year of service.
(d) Awards under staff suggestion schemes if:
(i) There is a formal scheme, open to all employees on equal terms.
(ii) The suggestion is outside the scope of the employee’s normal duties.
(iii) Either the award is not more than £25, or the award is only made after a decision is taken to implement the suggestion.
(iv) Awards over £25 reflect the financial importance of the suggestion to the business, and either do not exceed 50% of the expected net financial benefit during the first year of implementation or do not exceed 10% of the expected net financial benefit over a period of up to five years.
(v) Awards of over £25 are shared on a reasonable basis between two or more employees putting forward the same suggestion.
If an award exceeds £5,000, the excess is always taxable.
(e) The first £8,000 of removal expenses if:
(i) The employee does not already live within a reasonable daily travelling distance of the new place of employment, but will do so after moving.
(ii) The expenses are incurred or the benefits provided by the end of the tax year following the tax year of the start of employment at the new location.
(f) Some childcare (see earlier in this chapter).
(g) Sporting or recreational facilities available to employees generally and not to the general public, unless they are provided on domestic premises, or they consist in an interest in or the use of any mechanically propelled vehicle or any overnight accommodation. Vouchers only exchangeable for such facilities are also exempt, but membership fees for sports clubs are taxable.
(h) Assets or services used in performing the duties of employment provided any private use of the item concerned is insignificant. This exempts, for example, the benefit arising on the private use of employer-provided tools.
(i) Welfare counselling and similar minor benefits if the benefit concerned is available to employees generally.
(j) Bicycles or cycling safety equipment provided to enable employees to get to and from work or to travel between one workplace and another. The equipment must be available to the employer’s employees generally. Also, it must be used mainly for the aforementioned journeys.
(k) Workplace parking.
(l) Up to £15,480 a year paid to an employee who is on a full-time course lasting at least a year, with average full-time attendance of at least 20 weeks a year. If the £15,480 limit is exceeded, the whole amount is taxable.
(m) Work related training and related costs. This includes the costs of training material and assets either made during training or incorporated into something so made.
(n) Air miles or car fuel coupons obtained as a result of business expenditure but used for private purposes.
(o) The cost of work buses and minibuses or subsidies to public bus services.
A works bus must have a seating capacity of 12 or more and a works minibus a seating capacity of 9 or more but not more than 12 and be available generally to employees of the employer concerned. The bus or minibus must mainly be used by employees for journeys to and from work and for journeys between workplaces.
(p) Transport/overnight costs where public transport is disrupted by industrial action, late night taxis and travel costs incurred where car sharing arrangements unavoidably breakdown.
(q) The private use of one mobile phone (which can be a smartphone). Top up vouchers for exempt mobile phones are also tax free. If more than one mobile phone is provided to an employee for private use only the second or subsequent phone is a taxable benefit.
(r) Employer provided uniforms which employees must wear as part of their duties.
(s) The cost of staff parties which are open to staff generally provided that the cost per head per year (including VAT) is £150 or less. The £150 limit may be split between several parties.
(t) Private medical insurance premiums paid to cover treatment when the employee is outside the UK in the performance of the employee’s duties. Other medical insurance premiums are taxable as is the cost of medical diagnosis and treatment except for routine check ups. Eye tests and glasses for employees using VDUs are exempt.
(u) Cheap loans that do not exceed £10,000 at any time in the tax year (see above).
(v) Job related accommodation (see above).
(w) Employer contributions towards additional household costs incurred by an employee who works wholly or partly at home. Payments up to £4 per week (or £18 per month for monthly paid employees) may be made without supporting evidence. Payments in excess of that amount require supporting evidence that the payment is wholly in respect of additional household expenses.
(x) Reasonable cost of providing independent advice to an individual who is offered an employee shareholder employment contract under which an employee gives up certain employment rights in exchange for shares in the employer company (see later in this Text).
(y) Recommended medical treatment costing up to £500 per employee per tax year paid for by an employer. The treatment must be recommended in writing by a health professional (eg doctor, nurse) and the purpose of the treatment must be to assist the employee to return to work after a period of injury or ill-health lasting at least 28 days. If the payments exceed £500, they are wholly taxable.
Where a voucher is provided for a benefit which is exempt from income tax the provision of the voucher itself is also exempt.
4 Allowable deductions 6/12, 12/13
FAST FORWARD
To be deductible, expenses must be for qualifying travel or wholly, exclusively and necessarily incurred.
4.1 General principles
Certain expenditure is specifically deductible in computing net taxable earnings:
(a) Contributions (within certain limits) to registered occupational pension schemes (see earlier in this Text)
(b) Subscriptions to professional bodies on the list of bodies issued by HMRC (which includes most
UK professional bodies), if relevant to the duties of the employment
(c) Payments for certain liabilities relating to the employment and for insurance against them (see below)
(d) Payments to charity made under the payroll deduction scheme operated by an employer
(e) Mileage allowance relief (see above).
Otherwise, allowable deductions are notoriously hard to obtain. They are limited to:
• Qualifying travel expenses (see below)
• Other expenses the employee is obliged to incur and pay as holder of the employment which are incurred wholly, exclusively and necessarily in the performance of the duties of the employment
• Capital allowances on plant and machinery (other than cars or other vehicles) necessarily provided for use in the performance of those duties.
4.2 Liabilities and insurance
If a director or employee incurs a liability related to employment or pays for insurance against such a liability, the cost is a deductible expense. If the employer pays such amounts, there is no taxable benefit.
A liability relating to employment is one which is imposed in respect of the employee’s acts or omissions as employee. Thus, for example, liability for negligence would be covered. Related costs, for example the costs of legal proceedings, are included.
For insurance premiums to qualify, the insurance policy must:
(a) Cover only liabilities relating to employment, vicarious liability in respect of liabilities of another person’s employment, related costs and payments to the employee’s own employees in respect of employment liabilities relating to employment and related costs, and
(b) It must not last for more than two years (although it may be renewed for up to two years at a time), and the insured person must not be not required to renew it.
4.3 Travel expenses
4.3.1 General principles
Tax relief is not available for an employee’s normal commuting costs. This means relief is not available for any costs an employee incurs in getting from home to the employee’s normal place of work. However employees are entitled to relief for travel expenses which basically are the full costs that they are obliged to incur and pay as holder of the employment in travelling in the performance of their duties or travelling to or from a place which they have to attend in the performance of their duties (other than a permanent workplace).
Judi is an accountant who works in an office in Leeds. She often travels to meetings at the firm’s offices in London, returning to her office in Leeds after the meetings. What tax relief is available for Judi’s travel costs?
Answer
Judi’s duties. Tax relief is available for the full cost of these journeys as the travel is undertaken in the performance of
Relief for travelling costs (2)
Question
Zoe lives in Wycombe and normally works in Chiswick. Occasionally she visits a client in Wimbledon and travels direct from home. Distances are shown in the diagram below: 25 miles
What tax relief is available for Zoe’s travel costs?
Zoe is not entitled to tax relief for the costs incurred in travelling between Wycombe and Chiswick since these are normal commuting costs. However, relief is available for all costs that Zoe incurs when she travels from Wycombe to Wimbledon to visit her client.
To prevent manipulation of the basic rule, normal commuting will not become a business journey just because the employee stops en-route to perform a business task (eg make a ‘phone call’). Nor will relief be available if the journey is essentially the same as the employee’s normal journey to work.
Jeffrey is based at an office in Birmingham city centre. One day he is required to attend a 9.00 am meeting with a client whose premises are near to his Birmingham office. Jeffrey travels from home directly to the meeting. What tax relief is available for Jeffrey’s travel costs?
As the journey to the client is substantially the same as Jeffrey’s ordinary journey to work, tax relief is not available for the cost of this journey.
4.3.2 Site based employees
Site based employees (eg construction workers, management consultants etc) who do not have a permanent workplace, are entitled to relief for the costs of all journeys made from home to wherever they are working. This is because these employees do not have an ordinary commuting journey or any normal commuting costs.
However this rule only applies if the employee does not spend more than 24 months of continuous work at any one site. Continuous work is defined as a period over which the duties of the employment are performed to a significant extent (40% or more of working time) at that place.
4.3.3 Temporary workplace
Tax relief is available for travel, accommodation and subsistence expenses incurred by an employee who is working at a temporary workplace on a secondment expected to last up to 24 months. If a secondment is initially expected not to exceed 24 months, but it is extended, relief ceases to be due from the date the employee becomes aware of the change. When looking at how long a secondment is expected to last, HMRC will consider not only the terms of the written contract but also any verbal agreement by the employer and other factors such as whether the employee buys a house etc.
Philip works for Vastbank at its Newcastle city centre branch. Philip is sent to work full-time at another branch in Morpeth for 20 months at the end of which he will return to the Newcastle branch. Morpeth is about 20 miles north of Newcastle. What tax relief is available for Philip’s travel costs?
Although Philip is spending all of his time at the Morpeth branch it will not be treated as his normal work place because his period of attendance will be less than 24 months. Thus Philip can claim tax relief in full for the costs of travel from his home to the Morpeth branch.
4.3.4 Travel expenses relating to overseas employment
There is also tax relief for certain travel expenses relating to overseas employment. These are dealt with later in this Text.
4.4 Other expenses
The word ‘exclusively’ strictly implies that the expenditure must give no private benefit at all. If it does, none of it is deductible. In practice, HMRC may ignore a small element of private benefit or an apportionment between business and private use.
Whether an expense is ‘necessary’ is not determined by what the employer requires. The test is whether the duties of the employment could not be performed without the expense being incurred.
- Sanderson v Durbridge 1955
The cost of evening meals taken when attending late meetings was not deductible because it was not incurred in the performance of the duties.
- Blackwell v Mills 1945
As a condition of employment, an employee was required to attend evening classes. The cost of textbooks and travel was not deductible because it was not incurred in the performance of the duties.
- Lupton v Potts 1969
Examination fees incurred by a trainee solicitor were not deductible because they were incurred neither wholly nor exclusively in the performance of the duties of the trainee’s employment, but in furthering his ambition to become a solicitor.
- Brown v Bullock 1961
The expense of joining a club that was virtually a requisite of an employment was not deductible because it would have been possible to carry on the employment without the club membership, so the expense was not necessary.
- Elwood v Utitz 1965
A managing director’s subscriptions to two residential London clubs were claimed by him as an expense on the grounds that they were cheaper than hotels.
The expenditure was deductible as it was necessary in that it would be impossible for the employee to carry out his London duties without being provided with appropriate accommodation. The residential facilities (which were cheaper than hotel accommodation) were given to club members only.
- Lucas v Cattell 1972
The cost of business telephone calls on a private telephone was deductible, but no part of the line or telephone rental charges was deductible.
- Fitzpatrick v IRC 1994; Smith v Abbott 1994
Journalists could not claim a deduction for the cost of buying newspapers which they read to keep themselves informed, since they were merely preparing themselves to perform their duties.
The cost of clothes for work is generally not deductible, except that, for certain trades requiring uniforms or protective clothing such as overalls, protective gloves and boots, an expense may be claimed by the employee of either the actual cost incurred or a flat rate amount negotiated by HMRC with the relevant trade unions.
An employee required to work at home may be able to claim a deduction for an appropriate proportion of expenditure on lighting, heating and (if a room is used exclusively for work purposes) the council tax. Employers can pay up to £4 per week (or £18 per month to monthly paid employees) without the need for supporting evidence of the costs incurred by the employee. Payments above the limit require evidence of the employee’s actual costs.
5 National insurance for employers and employees 6/14,
6/15
5.1 Classes of National Insurance contributions
FAST FORWARD
National insurance contributions are divided into four classes.
Four classes of national insurance contribution (NIC) exist, as set out below.
- Class 1. This is divided into:
- Primary, paid by employees
- Secondary, Class 1A and Class 1B paid by employers
- Class 2. Paid by the self-employed
- Class 3. Voluntary contributions ( for example to maintain rights to certain state benefits) (d) Class 4. Paid by the self-employed
Exam focus Class 1B and Class 3 contributions are outside the scope of your syllabus. point
In this section we focus on NIC for employees and their employers.
5.2 General principles
FAST FORWARD
Employees pay primary Class 1 NICs. Employees pay the main primary rate between the primary threshold and upper earnings limit and the additional rate on earnings above the upper earnings limit. Employers pay secondary Class 1 NICs above the secondary threshold. For employers, there is no upper earnings limit.
5.2.1 Introduction
The National Insurance Contributions Office (NICO), which is part of HMRC, examines employers’ records and procedures to ensure that the correct amounts of NICs are collected.
Both employees and employers pay Class 1 NICs related to the employee’s earnings. NICs are not deductible from an employee’s gross salary for income tax purposes. However, employers’ contributions are deductible trade expenses.
5.2.2 What is ‘earnings’?
‘Earnings’ broadly comprise gross pay, excluding benefits which cannot be turned into cash by surrender (eg holidays, cars, accommodation, use of employer’s assets – these are subject to Class 1A contributions, see 5.3 below). It also includes mileage payments over the approved amount (see below) and readily convertible assets given to employees. No deduction is made for employee pension contributions.
An employer’s contribution to a registered personal pension or a registered occupational pension is not ‘earnings’. However, NICs are due on employer contributions to non-registered schemes.
In general income tax and NIC exemptions mirror one another. For example, payment of personal incidental expenses covered by the £5/£10 a night income tax de minimis exemption are excluded from NIC earnings. Relocation expenses of a type exempt from income tax are also excluded from NIC earnings but without the income tax £8,000 upper limit (although expenses exceeding £8,000 are subject to Class 1A NICs as described below). Similarly, the income tax rules for travel expenses are exactly mirrored for NIC treatment.
An expense with a business purpose is not treated as earnings. For example, if an employee is reimbursed for business travel or for staying in a hotel on the employer’s business this is not normally ‘earnings’. However, if an employee is reimbursed for their own home telephone charges the reimbursed cost of private calls (and all reimbursed rental) is earnings.
Where an employer reimburses an employee using their own car for business mileage, the earnings element is the excess of the mileage rate paid over HMRC’s ‘up to 10,000 business miles’ ‘approved mileage allowance payments’ (AMAPs). This applies even where business mileage exceeds 10,000 pa.
In general, non cash vouchers are subject to NICs. However, the following are exempt:
- Childcare vouchers up to the amount exempt for income tax
- Vouchers for the use of sports and recreational facilities (where tax exempt)
- Vouchers for meals on the employer’s premises
- Transport vouchers where the employee earns less than £8,500 a year
- Top up vouchers for pay as you go mobile phones where the provision of the phone itself is exempt from income tax
- Vouchers for eye tests and glasses for employees using VDUs Any other voucher which is exempt from income tax.
5.2.3 Rates
The rates of contribution for 2015/16, and the earnings bands to which they apply, are set out in the Rates and Allowances Tables in this text.
Non-contracted out employees pay main primary contributions of 12% of earnings between the primary threshold of £8,060 and the upper earnings limit of £42,385 or the equivalent monthly or weekly limit (see below). They also pay additional primary contributions of 2% on earnings above the upper earnings limit.
Where the employee is aged 21 or over, employers pay secondary contributions of 13.8% on earnings above the secondary threshold of £8,112, or the equivalent monthly or weekly limit. There is no upper limit.
Exam focus
point There are different rules for secondary contributions if the employee is aged under 21. These rules are not
examinable in P6(UK). You should therefore assume that all employees are aged 21 or over in questions. Calculation of reduced contributions payable by contracted-out employees are also outside the scope of the P6(UK) syllabus.
5.2.4 Earnings period
FAST FORWARD
NICs are based on earnings periods.
NICs are calculated in relation to an earnings period. This is the period to which earnings paid to an employee are deemed to relate. Where earnings are paid at regular intervals, the earnings period will generally be equated with the payment interval, for example a week or a month. Company directors have an annual earnings period, regardless of how they are paid.
Exam focus
point The examination team has stated that calculations of weekly or monthly contributions will not be examined. All calculations will be on an annualised basis.
Sally works for Red plc. She is paid £48,000 in 2015/16.
Show Sally’s primary contributions for 2015/16 and the secondary contributions paid by Red plc, before taking account of the employment allowance (see below).
Sally
Primary contributions £
£(42,385 – 8,060) = £34,325 12% (main) 4,119
£(48,000 – 42,385) = £5,615 2% (additional) 112
Total primary contributions 4,231
Red plc
Secondary contributions £
£(48,000 – 8,112) = £39,888 13.8% 5,505
5.2.5 Employment allowance
FAST FORWARD The employment allowance enables an employer to reduce its total Class 1 secondary contributions by up to £2,000 per tax year.
An employer can make a claim to reduce its total Class 1 secondary contributions by an employment allowance equal to those contributions, subject to a maximum allowance of £2,000 per tax year. The employment allowance is used against each payment of Class 1 secondary contributions in the tax year until the end of the tax year or until the £2,000 limit is reached. For example, if the Class 1 secondary contributions are £1,200 each month, £1,200 of the allowance will be used against the April liability and the remaining £800 against the May liability.
Some employers are excluded employers for the purposes of the employment allowance. These include those who employ employees for personal, household or domestic work, public authorities and employers who carry out functions either wholly or mainly of a public nature such as provision of National Heath Service services.
The employment allowance cannot be used to reduce the Class 1 secondary contributions on deemed payments from Personal Service Companies (see later in this chapter).
5.3 Class 1A NIC
FAST FORWARD
Employers pay Class 1A NIC on most taxable benefits.
Employers must pay Class 1A NIC at 13.8% on most taxable benefits. However, benefits are exempt if they are:
- Within Class 1, or
- Covered by a PAYE dispensation, or
- Provided for employees earning less than £8,500 a year, or Included in a PAYE settlement agreement, or Otherwise not required to be reported on P11Ds.
Childcare provision in an employer provided nursery or playscheme is wholly exempt from Class 1A NICs. Provision of other childcare, for example where an employer contracts directly for places in a commercial nursery, is exempt up to the limit allowable for income tax.
Class 1A contributions are collected annually in arrears. If the payment is made electronically, payment must reach HMRC’s bank account no later than 22 July following the end of the tax year. Payment by cheque must reach HMRC no later than 19 July following the end of the tax year.
5.3.1 Example: Class 1A NICs
An employee is provided with benefits totaling £2,755 during 2015/16. The Class 1A contributions due from the employer are £2,755 @ 13.8% = £380.
| 6 Personal service companies | 12/13 |
| The IR35 provisions prevent avoidance of tax by providing services through a company. |
FAST FORWARD
6.1 Application and outline of computation
We looked at the distinction between employment and self employment earlier in this chapter. Workers normally prefer to avoid being classified as employees as the tax and national insurance burden on the self-employed is lower. However, there is a risk that workers claiming to be self employed will be classified by HMRC as employees, leading to increased taxation and liability to penalties, both for the workers and those who use their services.
One way to avoid this potential pitfall was for the worker to set up a company (known as a personal service company or PSC) to provide services to a client. The worker was both the owner of the PSC (usually as its sole shareholder) and an employee of the PSC. An employment relationship could not arise between the client and the worker because of the existence of the intermediary PSC and so payments by the client were not subject to PAYE and no NICs were payable.
In addition, it was possible for the worker to arrange the affairs of the personal service company to obtain tax advantages in extracting profits from the PSC as compared with the situation where the worker was self-employed. Thus the arrangement had advantages for both the client and the worker.
A typical arrangement is shown in the following diagram where a taxpayer called Ada used a PSC called Quality Ltd to provide computer services to a business client, Edward:
Quality Ltd invoiced Edward for the services provided. This payment was made gross by Edward, rather than under PAYE and there were no national insurance contributions payable.
Quality Ltd might then have paid Ada a salary (usually only a minimal amount to ensure that a small amount of national insurance contributions were payable which gave entitlement to state benefits such as Jobseeker’s Allowance). Quality Ltd paid corporation tax on its net income after deduction of expenses wholly and exclusively incurred for the purposes of the trade (a more generous basis than the test for employment expenses), including Ada’s salary and any employer national insurance contributions. The corporation tax charge (20%) was substantially lower than the higher and additional rates of income tax.
Quality Ltd could then have distributed post-tax profits as dividends. Dividends are not subject to PAYE nor to national insurance contributions. There was also scope for paying dividends to Ada in a tax efficient manner, for example limiting them to the basic rate band so that her tax liability was covered by the dividend tax credit. Ada could also spread the payment of dividends over a number of tax years to take advantage of the basic rate band each year – compare this with the situation where Ada was selfemployed and thus taxable on the whole of her taxable trading profit on the current year basis, possibly at the higher or additional rates in a year when profits were high.
Such PSCs were so popular that the loss of tax and national insurance contributions as a result of their use caused serious concerns to HMRC. Consequently, there are now anti-avoidance rules which restrict the avoidance of tax and national insurance contributions by workers offering their services through an intermediary, such as a PSC. These provisions are commonly known as the IR35 provisions.
Broadly, the IR35 provisions apply where:
- An individual (‘the worker’) performs, or has an obligation to perform, services for ‘a client’, and
- The performance of those services is referable to arrangements involving a third party (eg the personal service company), rather than referable to a contract between the client and the worker, and
- If the services were to be performed by the worker under a contract between the worker and the client, the worker would be regarded as employed by the client.
In relation to the last condition, the usual tests of whether an individual is employed or self-employed, considered earlier in this chapter, are used.
If the intermediary is a company, the IR35 provisions will apply only if:
- The worker (or the worker’s associates) has a material interest in the company, or
- The payment or benefit arising (other than employment income) from the work done for the client is received or receivable directly from the intermediary and can reasonably be taken to represent remuneration for services provided by the worker to the client.
Material interest is defined as being:
- Beneficial ownership of, or the ability to control, directly or indirectly more than 5% of the ordinary share capital of the company, or
- Possession of, or entitlement to acquire, rights to receive more than 5% of any distributions made by the company; or
- Where the company is a close company (see later in this Text), possession of, or entitlement to acquire, rights to receive more than 5% of the assets available for distribution to participators in the event of a winding up of the company.
6.2 Computation of deemed salary payment
If the IR35 provisions apply, then a salary payment may be deemed to have been made to the worker at the end of the tax year. The deemed payment is subject to PAYE and NICs.
The following steps should be followed to compute the amount of the deemed payment:
Step 1 Take 95% of all payments and benefits received in respect of the relevant engagements by the third party.
Step 2 Add amounts received in respect of the relevant engagements by the worker otherwise
than from the third party, if they are not chargeable as employment income, but would have been so chargeable if the worker had been employed by the client.
Step 3 Deduct expenses met by the third party if those expenses would have been deductible had they been paid out of the taxable earnings of the employment by the worker. This also includes expenses paid by the worker and reimbursed by the third party. Mileage allowances up to the statutory amounts are also deductible where a vehicle is provided by the third party.
Step 4 Deduct capital allowances on expenditure incurred by the third party if the worker would have been able to deduct them had the worker incurred the expenditure and had the worker been employed by the client.
Step 5 Deduct any registered pension contributions and employer’s NICs paid by the third party in respect of the worker.
Step 6 Deduct amounts received by the worker from the third party that are chargeable as employment income but were not deducted under Step 3.
Step 7 Find the amount that together with employer’s NIC on it, is equal to the amount resulting
from Step 6 above. This means that you should multiply the amount in Step 6 by 13.8/113.8 and deduct this amount from the amount in Step 6.
Step 8 The result is the amount of the deemed employment income.
6.3 Effect on company
The deemed employment income is an allowable trading expense for the personal service company and is treated as paid to the worker on the last day of the tax year. If dividends are paid out of this income, they are treated as exempt in order to avoid a double charge to tax on the same income. The personal service company should consider having an accounting date of 5 April, or shortly thereafter.
For example, if accounts are prepared to 5 April the deemed employment income for 2015/16 is deductible in the company in the year to 5 April 2016, whereas with a 31 March year end the deemed payment would be deductible in the year to 31 March 2017.
6.4 Example: personal service company
Alison offers technical writing services through a company. During 2015/16 the company received income of £60,000 in respect of relevant engagements performed by Alison. The company paid Alison a salary of £30,000 plus employer’s NIC of £1,021 (after taking account of the employment allowance – see earlier in this chapter). The company also pays £4,000 into an occupational pension scheme in respect of Alison. Alison incurred travelling expenses of £400 in respect of the relevant engagements.
The deemed employment income taxed on Alison is:
£
Income (£60,000 95%) 57,000
Less: travel (400) pension (4,000) Salary (30,000) employer’s NIC on actual salary (1,021)
21,579
Less employer’s NIC on deemed payment
£21,579 (2,617)
Deemed employment income 18,962
| | General earnings are taxed in the year of receipt. Money earnings are generally received on the earlier of the time payment is made and the time entitlement to payment arises. Non-money earnings are generally received when provided. |
| | Employment involves a contract of service whereas self employment involves a contract for services. |
| | Most employees are taxed on benefits under the benefits code. ‘Excluded employees’ (lower paid/nondirectors) are only subject to part of the provisions of the code. |
| | The benefit in respect of accommodation is its annual value. There is an additional benefit if the property cost the employer over £75,000. |
| | Employees who have a company car are taxed on a % of the car’s list price which depends on the level of the car’s CO2 emissions. The same % multiplied by £22,100 determines the benefit where private fuel is also provided. Authorised mileage allowances can be paid tax free to employees who use their own vehicle for business journeys. |
| | Taxable cheap loans are charged to tax on the difference between the official rate of interest and any interest paid by the employee. |
| | 20% of the value of assets made available for private use is taxable. |
| | Workplace childcare is an exempt benefit. Employer-supported childcare and childcare vouchers are exempt up to £55 per week. Maximum tax relief is limited to £11 per week (the equivalent of £55 x 20%). |
| | There is a residual charge for other benefits, usually equal to the cost of the benefits. |
| | Some benefits are exempt from tax such as removal expenses and the provision of sporting facilities (subject to certain limits). |
| | To be deductible, expenses must be for qualifying travel or wholly, exclusively and necessarily incurred. |
| | National Insurance contributions are divided into four classes. |
| | Employees pay primary Class 1 NICs. Employees pay the main primary rate between the primary threshold and upper earnings limit and the additional rate on earnings above the upper earnings limit. Employers pay secondary Class 1 NICs above the secondary threshold. For employers, there is no upper earnings limit. |
| | NICs are based on earnings periods. |
| | The employment allowance enables an employer to reduce its total Class 1 secondary contributions by up to £2,000 per tax year. |
| | Employers pay Class 1A NIC on most taxable benefits. |
| | The IR35 provisions prevent avoidance of tax by providing services through a company. |
Chapter roundup
Quick quiz
- Ben is employed by C Ltd and paid £14,000 per annum. For the year ended 31 December 2015 he is paid a £5,000 bonus on 1 May 2016. He was paid a similar bonus of £3,000 on 1 May 2015 based on the year ended 31 December 2014 results. Ben is not a director of C Ltd. How much is Ben’s taxable income for 2015/16?
- What accommodation does not give rise to a taxable benefit?
- Josh was provided with a company car on 1 August 2015. It cost £25,000 and has a CO2 emission of 120g/km. Josh uses the car 60% for business use as a sales representative. The company pays for Josh’s private diesel for use in the car. What is Josh’s benefit(s) in respect of the car?
- When may an employee who is provided with a fuel by an employer avoid a fuel benefit?
- To what extent are removal expenses paid for by an employer taxable?
- When may travel expenses be deducted from the taxable earnings of an employee?
- Lucy is provided with a mobile phone by her employer costing £350 per annum. What is taxable on Lucy?
- What is the employment allowance?
- On what and by whom are Class 1A NICs paid?
- What are the IR35 provisions designed to prevent?
Answers to quick quiz
- £17,000 (£14,000 + £3,000 bonus paid in 2015/16)
- Job related accommodation
- £6,908 (3,667 + 3,241)
12095
Car: £25,000 ( +14% + 3%) (diesel car)
5
£25,000 22%
£5,500 for 12 months
£5,500 8/12
Car: £3,667
Fuel: £22,100 22% 8/12 = £3,241 4 There is no fuel benefit if:
- All the fuel provided was made available only for business travel, or
- An employee can deduct travel costs incurred in travelling in the performance of their duties or in travelling to a place which they have to attend in the performance of their duties (other than the normal place of work).
the full cost of any fuel provided for private use was completely reimbursed by the employee 5 The first £8,000 of removal expenses are exempt. Any excess is taxable.
- The provision of one mobile phone for private use is an exempt benefit.
- The employment allowance is a reduction in an employer’s Class 1 secondary contributions equal to those contributions, subject to a maximum of £2,000 per tax year.
- Class 1A NICs are paid by employers on taxable benefits.
- The provisions are designed to prevent workers avoiding tax and NIC by offering their services through an intermediary, such as a company.
| Number | Level | Marks | Time |
| Q4 | Introductory | 15 | 29 mins |
| Q5 | Introductory | 10 | 19 mins |
