Corporation tax has had a long history. The Finance Act of 1965 regularised corporation tax, charging a uniform rate on all profits. Shortly after, the Small Companies’ Rate was introduced, recognising the different challenges small companies face. While tax has had a long history in the UK, successive governments have tried to tidy up the myriad of legislative documents and rules outlining the rates, tax relief and allowances for businesses.
The crux of the matter is that corporate taxes are government receipts. Tax receipts between 2010-2016 have recovered from pre-recession levels, with corporation tax receipts reaching a high this year. Onshore tax receipts have peaked at £54.6 billion for the tax year 2017-2018. Changes in taxation and corporate tax rates affects government revenues, but the issues surrounding receipts are complex –reducing corporation tax rate may give businesses incentives to invest. But ultimately, corporation tax is based on profits. There is significant reliance on companies to translate tax breaks into profits.
Digital taxes
The Autumn Budget 2018, suggested new taxes for corporations like Google, Facebook, Amazon and other tech giants. The Budget also offered up tax relief for small businesses, acknowledging the ‘hard work’ on UK high streets. Focusing on local business and very small firms, Chancellor Hammond committed to cutting tax bills for business rates payers – a third less for those premises with a rateable value of up to £51,000. The statement noted that “supporting high streets as they adapt to people’s changing shopping habits, by cutting business rates by a third for up to 90% of all retail properties and incentivising business investment,” was key to growing the economy.
Companies resident in the UK are subject to the HMRC’s corporate tax regime, regardless of where profits are generated. Most are registered companies at Companies House, with charities, trusts and partnerships exempt. The tax regime since the Corporation Tax Act 2010 has made it easier for companies to comply with the new rules. The Act laid out specific calculations on the application of corporate tax; provisions for specific businesses; tax avoidances and other clauses pertaining to changes in ownership. According to the HMRC, corporation tax applies to:
- a limited company
- any foreign company with a UK branch or office
- a club, co-operative or other unincorporated association, i.e. a community group or sports club
Unlike personal tax allowances, small businesses, regardless of size, must pay corporation tax. Upon registering with Companies House, small companies need to also register for corporation tax – this can be done online. Taxes are paid on the HMRC’s tax year basis, and the amount depends on when a firm’s accounting year starts and ends. For example, while the tax year is April to April of the following year, a firm’s accounting year-end may be December to December. The firm’s accounting year will affect when profits are declared for each tax year, and consequent tax relief and allowances.
UK companies, including small businesses, face a 19% tax on all profits for the 2017-2018. On profits made prior to 2017-2018, the tax rate was 20%. Both tax rates apply for small companies making £300,000 or less. To be clear, to be considered a ‘small profits’ businesses, profits must tally up to less than £300,000.
Tax reliefs and allowances
Corporate tax reliefs and allowances can be taken into account when calculating a firm’s profits. The general rule is anything that counts as operating expenditure can be deducted from profits. For example, investment in company equipment like cashiers, computers, company vehicles, shelving etc. can be deducted from actual profits to arrive at taxable profits. The capital allowances reliefs can be applied to ‘plant and machinery.’ For capital allowances, depreciation charges are not tax deductible. The annual investment allowance (AIA) can be quite substantial, totalling £200,00 for eligible business purchases. If a small businesses owner controls two businesses, the two businesses can only get one AIA between them.
Importantly, claims made under the AIA have to reflect business use. For example, a sewing machine purchase which may be used for both business and personal can be claimed, but only in proportion to how much is used for business purposes. If an individual uses the machine half the time for personal tasks, then half the value of the machine can be claimed under AIA. Capital allowances can only be claimed on items which are owned – leased items cannot be claimed, and offer no tax advantages.
While operating expenses can help reduce the taxable profits, purchases of intangible assets during an M&A transaction can often include goodwill. Amortisation of goodwill is eligible for tax relief but only if goodwill is sold. As of 2015, goodwill purchased during a transaction does not attract tax relief – so amortisation cannot be claimed as a loss and the corporation tax claimed back. The implication of the amortisation being non-tax deductible has only a “negligible impact on around 25,000 small, medium and micro businesses,” according to the HMRC.
The UK tax regime looks kindly upon certain types of businesses. Tax reliefs are available for firms doing research and development, companies which make profits from registered patents, and those engaged in creative industries. There are other types of tax allowances available for small companies related to company closure – disincorporation and terminal capital and property income losses can be claimed under corporation tax allowances.
Relief for small businesses
For firms with less than 500 employees and a turnover of under EUR100m or balance sheet total under EUR 86m, the SME R&D relief allows companies to reduce their taxable profits. The tax allowance enables firms to take eligible operating expenses, multiply them by 130% in addition to the normal 100% reduction, bringing the total allowance to 230%. Small R&D companies can also claim a tax credit of up to 14.5% of losses. The tax relief can also be claimed for SMEs doing contracting work. Clearly for small firms, R&D tax relief and allowances can be significant – given that R&D also precludes using or purchasing expensive equipment, the UK regime buoys small start-ups investing in innovative products and services.
Creative businesses have specific tax allowances. Eight corporate tax reliefs relate to different media productions. Each category is unique – the film tax relief (FTR) must qualify for cultural reasons and production must take place in the UK. The video games tax relief (VGTF) requires games to be British, that the producers intend to distribute and that the suppliers are from the EEA. Interestingly for the VGTF, two claims cannot be made. If the video game company also does R&D, only one relief can be claimed for SMEs.
Scotland, Wales and Northern Ireland
Business rates relief, administered separately in Scotland, Wales and Northern Ireland, deals with rental and premises costs. Small business need to apply to their local councils to see a reduction on their bills. If the property’s rateable value is between £12,001- £15,000, the business rates on the property will reduce from 100% to 0%. For example, if your rental bill is £12,001, you pay no tax. If your bill is £13,500 the bill is reduced to 50%.
While small businesses outside of London may qualify for small business rates relief, many in London are not eligible due to high rental valuations. The valuations are based on estimates from the Valuation Office Agency as of 1 April 2015. Property in England with a rateable value of below £51,000 may be eligible for the small business multiplier. Estimating the business rates bill the councils send to a small company depends on rental payments and the multiplier. For English properties, the multiplier is 48% for small businesses, or 1.3% less than larger businesses rates. Essentially, for small businesses, the rental value of the property is used to calculate business rates bill. Without a doubt, those local shops on the high street pay more as their rateable values tend to be quite high.
Borrowing costs can also be tax deductible. From April 2017, the UK government introduced new rules for deducting interest from profits. At the behest of the Organisation for Economic Co-operation and Development (OECD) Base Erosion and Profit Shifting (BEPS) reforms have been made. Mainly aimed at multi-nationals, the basic premise of the new rules “limits the deductibility of interest expense against corporate profits” to a minimum amount of £2 million. While largely not applicable to small businesses, the change has been enforced and applied to profits made after 1 April 2017, regardless of the financial year of a company.
In the most recent Autumn Budget, amendments were also made to Entrepreneur’s Tax relief. For owners of small businesses, individuals may also pay less Capital Gains Tax. For individuals, the new rules introduced lifetime limits based on when the company was sold or disposed of by the individual. The maximum capital gains relief is set at £10,000,000 for sales made on or after 6th April 2011. For sales made prior to April 2011, capital gains tax relief has been set at less than £5,000,000.
Underscoring some of the key issues in small business corporation tax, recent evidence suggests that small businesses actually pay more tax than large conglomerates. “There are several tax reliefs targeted at SMEs like Research and Development tax credits and 100% Capital Allowances reliefs, but despite this they remain stubbornly under-claimed, mainly through lack of awareness,” Mike Cooper, from tax firm Moore Stephens notes. Small businesses educating themselves on tax reliefs is essential to reducing the tax bill. Resourcing clearly plays a key role. Getting the right accountant, comes in handy when preparing corporation tax filings.