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Lecture Notes on Income from property and self-employment
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This document provides an overview on taxing income from property and self-employment
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5001ACC – Lecture 4Trading Income (Self-Employed)
A trade is defined, by the legislation, as:
- ‘ Any venture in the nature of a trade
- Useless definition
- Courts have established ‘Badges of Trade’ to distinguish between trading and non-
trading activities
Once determined that you have a ‘trade’ the rules are included and applied as follows:
- ITTOIA (Income Tax, Trading and Other Income) Act 2005
- Any person conducting a trade, profession, or vocation
- Must distinguish between trading (taxable) and non-trading profits (potentially exempt
or subject to capital gains tax)
Badges of Trade
These are used to help establish if a trade exists (not viewed in isolation but as a whole)
Subject matter of transaction
- Personal enjoyment or held as a source of income – trading vs CG
- Short vs long period
Frequency of transactions by the same person
Supplementary work income tax (Trading and Other Income)
Reason for the sale
- A sale necessitated by a sudden urgent need for cash is less likely to be registered as a
trading activity than a sale made in the normal course of events
Motive
Calculating Trading Profit
You always start with Net Profit (before tax) per the accounting definition and then adjust
(undo) certain accounting entries that are not allowed/treated differently for tax purposes,
using the accruals approach
Adjustments required mainly consist of:
Disallowed expenses included in accounts
- These are ADDED BACK to accounting profits
Trading income NOT included in accounts
- These are items that don’t increase accounting profit but do for tax (drawings of
inventory for own use)
- ADDED BACK to accounting profit
Non-trading income included in accounts
- These are items that are taxed at different points (interest for example)
- DEDUCTED from accounting profit
, Pro-forma
Trading Income Allowance
If gross trading income ≤ £1,000 per annum (micro entrepreneurs) = exempt
Gross trading income = trading receipts before any expense deductions
No need to declare if income below this amount
If > £1,000 the taxpayer can choose:
- Be taxed on the excess gross trading receipts over £1,000 (without deducting expenses)
OR
- In the ‘normal’ way – deducting expenses (allowed for tax purposes)
Expenditure – Allowable and Deductible
It is important to be clear about what can be taken as a deduction against trading income
Allowable
General rule – expenditures is deductible (allowable) if its incurred ‘wholly and exclusively
for the purposes of the trade’
o If it meets the definition, you don’t need to make any adjustments for tax
o Tax treatment = accounting treatment = no action required
Deductible expenses not in accounts
Think of these as ‘extra’ deductions that are not accounting related but provided by HMRC as
deductions against profit
Most common example – Capital Allowances (tax equivalent of depreciation)
Complications
However, even where accounting expenditure is ‘wholly and exclusively for the purposes of trade’
some things need to be considered for the following:
1. Interest expense (trade purposes) – most likely an overdraft
2. Non-recoverable VAT (VAT exempt or not VAT registered)
3. Trade subscriptions/Political subscriptions
4. Theft and theft by employees/directors
5. Car lease payments (≤50g/km post 6/4/2021 contracts = add back 15%)
6. Patent royalties/Patent registration paid for trade
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