Have you ever wandered what adjustments your accountant makes and why?
The net profit in the accounts is only the starting point for the calculation of taxable profits, the accountant will make adjustments for the following:
- Expenses charged in accounts not allowable for tax
- e.g. depreciation
- Income not in accounts but taxable
- e.g. goods withdrawn by proprietor at less than market value
- Income in accounts but not taxable as trade profit
- e.g. interest
- Expenditure not in accounts but allowable for tax
- e.g. capital allowances
After making the above adjustments the outcome is the taxable profit on which the individual or the business will be taxed.
Expenses that are wholly and exclusively for the purpose of the trade are allowable deductions for tax purposes. Therefore there can be no deduction for an expense incurred for both personal and business benefit. This duality of purpose prevents any deduction.
some areas that have their own rules for example:
- Gifts to customers: with Christmas fast approaching it would be good to consider the following to make sure that your corporate gifts are also tax efficient. Gifts to any one person per year are allowable if less than £50 and the gift bears a conspicuous advertisement for the business. Gifts of food, drink, tobacco or exchangeable vouchers are not deductible expenses whatever the cost.
- Entertaining: Entertainment costs are generally not allowable unless provided for all staff, not just proprietors and costs per year amount to less than £150 per head.
- Subscriptions and donations:
- Trade subscriptions (professional or trade) generally allowable
- Charitable – if wholly and exclusively. Therefore gift to a motor museum by car manufacturer would be allowable but not to Oxfam or Red Cross. Small and local donations with advertising attached subject to wholly and exclusively test being met are allowable.
- Charitable donations in the form of trading stock are ignored for tax purposes.
- Not allowable if relate to capital or non trade items such as fees paid in acquiring new capital assets or rights, or fines for breaking the law.
- Allowable if related to trade i.e.
- defending taxpayers title to fixed assets
- successful defense of breaches of contract
- termination of onerous contracts
- renewal of a short lease
- charges for trade debt collection etc.
The most common adjustments are for capital items which are assets purchased for use in the business, the benefit of which is received for over 12 months. These include machinery, fixtures and fittings, motor vehicles and computer equipment for example.
The cost of the asset is included over the expected life of the asset in the accounts as depreciation. So a computer purchased for £900 for example which is expected to be useful to the business for 3 years will have a depreciation charge in the accounts of £300 for 3 accounting years.
For tax purposes depreciation is ignored but capital allowances are available instead. Although the rules for capital allowances are complex at present most new capital assets receive relief at 100% via the annual investment allowance up to a limit of £25,000 for 12/13.
There are many rules that make the taxable and accounting profit different. The above is just a few of the common adjustments that are made. My aim is to make you aware of some of the main areas so that perhaps you can make informed decisions, tweak what you purchase so that it is tax deductible or just understand why there is a difference in your estimate of the tax bill as compared to that provided by the accountant.