How is tax collected?
BASIC PRINCIPLES 1. HMRC collects tax from individuals and businesses via the self-
assessment system.
Types of taxes: 2. Some cases income tax is deducted at source, meaning that the
payer of a taxable sum deducts the tax and accounts for it to
Direct taxes: HMRC on the recipient’s behalf before the net amount is paid
Direct taxes = taxes imposed by reference to a taxpayer’s circumstances. out. The recipient therefore receives the sum net of tax. One
Eg. Income tax, CGT, IHT and corporation tax. example of this is the Pay As You Earn (PAYE) system. The
employee receives the wage/salary net of income tax.
Indirect taxes:
Indirect taxes = taxes imposed by reference to transactions.
Eg. VAT and SDLT. INCOME TAX
The distinction between income and capital: Start by collecting all your figures and highlight them. Separate each
figure into separate categories. Go back up to basic principles to see how
When working through your problem question, start by collecting all to do this.
your figures and highlight them.
Chargeable persons/entities:
Each figure will fall into one of four categories: * Employees
* Income receipts * Sole traders
* Capital receipts * Partners
* Income expenditure * Shareholders
* Capital expenditure * Lenders
* Debenture holder
Work out which category each of the figures will fall into. – any amount
will fall into one of these categories and cannot fall into more than one STEP 1: TOTAL INCOME:
category.
Next, we will calculate the Total Income.
Income receipts:
Receipt of money that originates from regular income generation. Add up all sources of income = Total Income.
Example: Other income that will fall in this Exempt income: Gambling wins, Interest on ISAs / NISAs, Personal
* Salary category: injury claim damages, Redundancy pay-outs or damages max. £30,000
* Trading profits of a * Pension earnings
business will be the * Interest on savings Not income: Gifts, Trivial benefits in kind max. £50 (except cash), capital
income of the owner * Dividend receipts from one-off sales which are capital receipts
* Interest charged on loans * Benefits in kind given to you Income: Salary, pension earnings, interest on savings, dividend, rental
will be the income of the by the company you work income, Benefits in kind (health insurance, company cars and low-
lender (whether paid for (health insurance, a interest or interest-free loans above £10,000.)
monthly/quarterly) company car and low-
* Rental income paid to interest or interest-free STEP 2: LESS PENSION AND INTEREST ON
landlord will be the
Incomeincome
receipts:
of the landlord.
loans of more than QUALIFYING LOANS:
£10,000).
Receipt of money that originates from regular income generation.
Next, we will calculate the Net Income.
Capital receipts:
Falls into this category if there is an income receipt and that income is Total Income – Pension contributions – Interest on Qualifying Loans =
due to a transaction that not part of a regular activity. Capital receipts Net Income
are ‘one-off’ transactions.
Pension contributions and Interest on Qualifying Loans are subject to Tax
Example: Relief so they are deducted before taxing income.
* Selling your car if you don’t sell cars as part of a business.
* Selling a painting if you don’t sell paintings as part of a business. Pension contributions:
One may pay contributions into a pension scheme – either an
Income expenditure: occupational pension scheme (set up by their employer) or a personal
If the expense is incurred due to the day-to-day trading activities of a pension scheme. Both types must be deducted from the Total Income.
business, it will be classed as income expenditure.
Qualifying loans:
Example: 1. loans to buy an interest in, contribute capital or make a loan to a
* Payment of rent (for business premises) partnership
* Paying bills (eg. staff wages, heating, lighting, rent or 2. loans to buy shares in (or make a loan to) a ‘close’ company
marketing/stationery expenses) 3. loans to buy shares in an employee-controlled company
* Paying for repairs of business premises/business vehicle etc. 4. loans to buy shares in an employee-controlled company or invest
in a co-operative.
Capital expenditure:
If you spend money on a new capital asset or enhancing an existing asset Make sure that the loan you have in your scenario is a qualifying loan.
as part of the business, it is ‘capital’ expenditure. Capital expenditure is Don’t deduct interest that comes from loans that don’t meet this
a ‘one-off’ transaction. criteria.
Example: STEP 3: LESS PERSONAL ALLOWANCE OF £12,570:
* Buying new large equipment/machinery
* Buying new property In step 3, we will calculate the Taxable Income.
* Spending money on enhancing existing equipment/machinery/
premises Net Income - Personal Allowance (£12,570) = Taxable Income
* Paying bills (eg. staff wages, heating, lighting, rent or
marketing/stationery expenses) If Net income < £100,000:
* Paying for repairs of business premises/business vehicle etc. Net income – £12,570 = Taxable income
Assessment of tax: If Net income > £100,000:
£12,570 - (Net Income - £100,000) = Reduced allowance
Tax assessment for individuals – based on Tax year 2
Tax assessment for companies – based on Financial year (although
companies may chose a different period for tax assessment purposes, If the reduced allowance is a negative number, then no allowance, and
called the accounting period) Net income will equal the Taxable income.
Both the tax year and financial year are different to the calendar year.
Tax year: starts 6 April, ends 5 April the next year.
Financial year: starts 1 April, ends 31 March the next year.
BLP Tax SQE Notes | Page 1 of 9
, STEP 4: SPLIT: Example:
In step 4, we will split the Taxable income into different categories. For 2022/23, TP has Taxable Income of £220,000 of which £20,000 is
savings income and £25,000 is dividend income – Taxable income
If the taxpayer has different types of income, split their income means that the personal allowance has already been deducted.
according to the different types:
1. Savings Income Taxable Income – savings income – dividend income = non-savings
2. Dividend income income (£220,000 - £20,000 - £25,000 = £175,000)
3. Non-savings Income
TP’s non-savings income £175,000
Add up all income coming from dividends = Dividend Income. TP’s savings income £20,000
Add up all interest coming from savings = Savings Income. TP’s dividend income £25,000
Taxable income – Savings Income – Dividend income = Non-savings
Income We then need to consider whether the personal savings allowance is
available. As some of TP’s Taxable Income is within the additional rate
band, the TP will not have the benefit of the personal savings
STEP 5: IS SAVINGS ALLOWANCE AVAILABLE? allowance which means that the savings nil rate will not apply.
In step 5, we will calculated the personal savings allowance. Charge tax as follows: Tax due
Interest on Savings: Personal savings allowance: Non-savings income (first slice)
For basic rate taxpayers - their first £1,000 – taxed at 0% 20% on £37,700 £7,540
For higher rate taxpayers - their first £500 – taxed at 0% 40% on £37,701 - £150,000 i.e 112,300 £44,920
For additional rate taxpayers – no allowance. 45% on £150,001 - £175,000 i.e. £25,000 £11,250
STEP 6: APPLY TAX BAND AND TAX RATES: Savings income (next slice)
45% on £20,000 £9,000
In step 6, we will apply the tax bands and calculate the tax liability.
Dividend income (top slice)
Measuring jug method: 0% on 2,000 £0
38.1% on £23,000 (£25,000-£2,000) £8,763 .
Dividend income: Total tax payable £81,473
£5,000
£6,600
£150,000 FULL EXAMPLE:
Margaret is 48 and is a partner in a small consultancy partnership
Savings income: business. She lives with her wife Amy, aged 46. The following
£100,000 – Tax at 40% information relates to her income and tax affairs for 2022/23.
£5,700 – Tax at 20%
£37,700 1. Trading profits for tax purposes £160,000
2. Interest received on bank deposit £2,000
3. Capital gains None
Non-savings income: 4. Contributions paid by Margaret into £5,000
£32,000 – Tax at 20% a personal pension scheme
5. Interest paid on loan from Barkers 3,000 p.a.
Bank plc taken out by Margaret to
enable her to invest in the partnership
Use the measuring jug method to calculate the tax owed. Thing of tax 6. Dividend on shares in Central Electricity plc £7,222
bands as the measurements on the jug. Each type of income is poured
on top of the other. Margaret also received a gift of some shares from her father. Their
market value at the time they were received was £15,000.
First, tax the non-savings income (tax year 2021/22):
£0-£37,700 – Basic rate – tax at 20% Amy does not work but is involved in voluntary work for a local charity.
£37,701-£150,000 – Higher rate – tax at 40%
over £150,000 – Additional rate – tax at 45% Questions:
Next, tax the savings income. i.What is Margaret’s Total Income?
Work out the tax band that you reached for non-savings income, then ii.What is Margaret’s Net Income?
tax the savings income in that band. If the total savings income amount iii.What is Margaret’s Taxable Income?
spills over into the next band, tax the rest of it at that rate. iv. Does Margaret have a personal savings allowance?
v. Apply the appropriate rates of tax to Margaret’s Taxable
Starting rate – 0% for the first £5,000. This is only available if the Income for the tax year 2022/23. (NB: you must split Taxable
taxpayer has no more than £5,000 non-savings income in that year. Income into Non-Savings, Savings and Dividend Income before
Basic rate taxpayers – tax at 20% applying the tax rates)
Higher rate taxpayers – tax at 40% vi. What is Margaret’s total tax liability?
Additional rate taxpayers – tax at 45%
Trading profits £160,000
Don’t forget to also account for Personal savings allowance: Bank Interest £2,000
For basic rate taxpayers - their first £1,000 – taxed at 0% Dividend income £7,222__
For higher rate taxpayers - their first £500 – taxed at 0% TOTAL INCOME: £169,222
For additional rate taxpayers – no allowance.
Less interest on qualifying loans (£3,000)
Finally, tax the dividend income: Less personal pension contrib. (£5,000)__
Dividend nil rate – 0% for the first 25,000 This is only available if the NET INCOME: £161,222
taxpayer has no more than £25,000 dividend income in that year.
Basic rate taxpayers – tax at 8.75% Personal allowance:
Higher rate taxpayers – tax at 33.75% £12,570 – (£161,222 – £100,000) = a negative number
Additional rate taxpayers – tax at 39.35% 2
Add up the tax liabilities for non-savings, savings and dividend income. As the personal allowance equals to a negative number, no personal
allowance is left to deduct from Net Income. Or also as the personal
allowance exceed £123,700, it tells us that none of the PA Is available.
Less personal allowance (£0)_____
TAXABLE INCOME: £161,222
Margaret is an additional rate taxpayer and therefore she is not entitled
to a personal savings allowance.
BLP Tax SQE Notes | Page 2 of 9
