There's an ongoing problem with the VAT system. When one VAT-registered business is selling to another VAT-registered business, the transaction is generally "VAT-neutral". One company charges VAT to the other company, which pays it to them. The first company gives the VAT to HMRC, the second company claims back exactly the same amount from HMRC. Overall everyone is in the same position. That's how it's supposed to work - at root, VAT is a tax on consumers, not on businesses.
There's a problem there, though. What happens if the first company doesn't give the VAT to HMRC, but instead shuts down or goes missing? The second company will still most likely claim the VAT back from HMRC, and get it. In that case, the public finances (we) have lost out. That wasn't a VAT-neutral exchange.
This "missing trader" fraud used to be a particularly big problem with the import and export of computer chips and mobile phones, where it was relatively easy to create large purchases and sales of those commodities, and make off with one half of the VAT. That was known as "carousel" fraud. You don't hear about it so much today - presumably HMRC are largely on top of it now.
Another industry where HMRC clearly think it's a problem is the construction industry, where they consider businesses are similarly prone to disappearing, along with the VAT they've been given by a customer. So, next year, in October 2019, the way VAT works in construction will change. In the kind of example above, the supplier will no longer charge VAT to the customer. Instead, the customer will just put both the VAT on the sale AND the VAT on the purchase on their own return, just as an academic exercise, cancelling each other out (this sounds redundant, but is necessary since there are occasions where someone is blocked from getting all the VAT back on their costs). So the supplier no longer has any VAT to run away with.
This is an excellent idea in general, though it's fair to say that not every trader in the building industry has totally bomb-proof accounting systems, so in practice there's bound to be a bit of confusion to begin with!
A recent tax case had a couple of aspects that are actually of quite general use and interest when looking at Self Employed tax - even if you might think it unlikely that a case concerned with exotic dancing would be of relevance to you!
Gemma Daniels was (maybe still) is a dancer at Stringfellows. HMRC looked into her tax returns, and deemed that she'd inappropriately claimed tax relief for a) travel costs and b) clothing. The case went to a tax tribunal. The first aspect went the way one would have expected, but the second didn't necessarily do the same.
First, travel. Home to workplace travel isn't a deductible cost for a self-employed person, though travel from one workplace to another often is. Since the Dr Samadian case of a couple of years ago, it's become accepted that if you regularly travel somewhere to perform your main business activity, that's probably a home to workplace trip, and having some home office activity doesn't negate that. Dr Samadian regularly attended private hospitals on a regular timetable, and wasn't allowed tax relief for his travel costs - he had a home office where he did administrative work, but he didn't see patients there. Similarly, Gemma Daniels didn't dance for anyone at home, even though she did her admin there, she danced only at Stringfellows. Her travel costs therefore weren't allowed either. So far, so predictable.
The clothes claim didn't go exactly as expected though. The principal case on this since time began has been Mallalieu vs Drummond, where it was held that the formal clothes a barrister wore weren't claimable, because they were something that could also reasonably be worn in other contexts. In the case of Gemma Daniels, the judge was happy that the clothes she had claimed for were not clothes that would generally be worn in any other context - they were in the nature of a costume. In the case of some 10-inch heels that were in question, fair enough. But the judge was also happy that skimpy lingerie wasn't something that anyone would wear in a non-performance context. And that thick make-up, fake tan and hair extensions were similarly unlikely to be paid for by any regular person. Perhaps that's a reflection on the judge's life as much as anything!
So, although the travel point was as expected, and not in the taxpayer's favour, the clothing point offers some hope that "costume" might not have to be quite as outlandish as has generally been considered the case. Normal day to day clothing still isn't going to be claimable, though.
As a final point - HMRC had a second go at the clothing claim, claiming the lack of invoices and receipts made them inadmissible. It didn't. It would have been helpful if Gemma Daniels had been better at keeping proper records, but it hadn't been suggested at any point that she was being untruthful, so the judge allowed the claim regardless. Do try and keep receipts, but their absence isn't always terminal.
Since 2013, something called the High Income Child Benefit Charge (HICBC) has been in place. If the higher earner in a household that has received Child Benefit has income of more than £50,000, they have to start giving the Child Benefit back to the government again, on a sliding scale, via their Self Assessment Tax Return. If they have income of more than £60,000, they have to give it all back.
If both parents earn £50,000, that's therefore fine - nothing to give back, even though total household income is £100,000. But if one earns £60,000 and the other zero (or a single parent has income of £60,000) then all of the Child Benefit has to be given back, despite household income being £40,000 lower!
If you've two children, HICBC could mean giving back nearly £1,800 of Child Benefit to the government.
The new system wasn't brilliantly publicised, and many of those affected weren't in the Self Assessment system anyway, so didn't have the new question on their tax return to alert them to the change. So it's not uncommon to see people suddenly being told they need to pay back several years' Child Benefit to HMRC. HMRC might accept repayment over a period of time, but repayment will have to be made.
The most obvious way you could avoid or reduce the charge is with pension contributions. If your income is £60,000, then paying £10,000 into a pension (which means making an £8,000 contribution, as personal pension contributions are paid net of 20% tax) reduces your income to £50,000 for these purposes, and you get to keep all the Child Benefit. Of course, if you're struggling with household income as it is, or earning way over £60,000, things may not be as easy as that. But if you can stand the short-term cashflow hit, pension contributions do become very tempting at that level of income - and the more children you have, the greater the saving!
Although the National Minimum Wage seems simple on the face of it, there can be complications with it. If you've employees on (or not too far above) the NMW, here's a quick checklist of some things you might want to quickly think about:
HMRC's stance on NMW enforcement is becoming firmer over time (and rightly so) - maximum fines are now £20,000 per employee! Do be careful.
If you’re a business owner, imagine an employee comes to you asking for a change to their pay arrangements.
“I was wondering if you could pay me less than I’m due most months, but then occasionally pay me a much bigger lump, once I’m really struggling. And could you also pay for some of my personal costs, then wait until I’ve forgotten about them before making me pay the money back?”
You’d probably refuse, telling your employee that’s a chaotic way to run their finances, and that you care too much about them to enable self-destructive behaviour like that. Regular, predictable pay is definitely better for everyone in the long run.
“How about if I only make my expense claims every three years, so that you don’t really have a full idea of your overheads, and I never have a clear idea of how much money I have in the long run?”
You’d probably turn that request down too, and encourage them to do their expenses monthly, so that everyone knows where they stand (and so that it’s not a massive task down the line to figure out what they were doing years ago).
It’s exactly how lots of business owners treat themselves though. Look after yourself in the same way you’d look after that employee.
March is sometimes referred to as "ISA season", as people rush to use their ISA allowance for the year (or some of it, anyway) at the last minute. The same thing applies to pension contributions, which people often try and do in a lump at the end of the year.
However, it's a perverse way of saving and investing. As we've said before, it would be absurd if we tried to scrape together the money for a whole year's mortgage payments at the last minute, so why do we do the same with something equally important, saving for our futures? There's no "mortgage season", and an "ISA season" is no more logical.
If your income is moderately steady, and you're aspiring to save into an ISA, why not think about setting up a fixed monthly standing order to it (or your pension, or savings account, or all of them) for the new tax year? Things used to be much simpler - there were only three types of ISA, and one was never really used by anybody. Now there's loads of varieties to choose from, with Help to Buy and Lifetime ISAs being particularly interesting to hopeful first-time homebuyers. But if you were aiming to max out the mainstream allowance for Cash or Stocks and Shares in an ISA next year, the annual allowance is £20,000, which equates to a monthly payment of £1,667.
If £1,667 (or whatever your monthly aspiration would be) seems like a daunting amount to find each month, it's going to be no easier to find the whole lump in one go next March! Of course, most people aren't going to be able to save the maximum amount - but that doesn't mean you can't save something. And saving something at the outset of each month makes it harder to spend the money by mistake. "Save, then spend what's left", as opposed to "spend, then save what's left"!
We've written before about how owners of profitable businesses assume that all businesses are profitable, and owners of struggling businesses assume that all businesses are struggling.
A similar thing applies with personal finances too. People who build up savings assume that's the natural and widespread thing to do, and are often astonished to hear that many high earners save little or nothing and have a disproportinately low net worth. They can't imagine how those people sleep at night. Whilst people who don't save up will tell you that everyone's struggling to get by, nobody's saving up, interest rates are low so it's not worth it, they're the squeezed middle and so on and so forth.
There's no "correct" amount to save that's the same for everyone, of course. But a useful starting point for benchmarking where you are might be the Net Worth formula from the excellent book The Millionaire Next Door, in which it's suggested that your Net Worth should ideally be at least:
Age X Annual Pre-Tax Income / 10
So if, for example, you're 44 years old and have a gross income of £70,000, is your Net Worth (i.e. value of all assets - houses, cash, shares, pension fund etc - minus all liabilities - mortgage, loans, credit card balances and so on) at least £308,000? As we say, that's not an objectively "correct" target figure. But if you find yourself questioning the result, and figuring that it's unrealistic, be assured that there will be plenty of people similar to you in a position comfortably in excess of the target...
A lot of businesses have to put all decisions through a couple of tests
It’s much easier and better if you can eliminate the second one, and just ask:
How do you eliminate the second one? Well, obviously you can operate an overdraft or whatever, so that more cash is available than would otherwise be the case. But the two healthier ways are:
The first one is great, but where the business owner doesn’t have any personal financial discipline they’ll still just find themselves perennially short of money in the business.
The second one is really the game changer. If people think more about the interaction between the finances of their business and their own financial needs and desires then they can improve their business – and their life – radically.
Over a period of many years, a large number of contractors working through their own limited companies signed up to a series of tax schemes that appeared too good to be true. Essentially, the idea was that, rather than paying yourself an income, your company paid the money to a trust instead, which then just lent the money to you. Since you now had a loan, but no income, you had no income tax to pay. Brilliant!
The majority of contractors didn't sign up to such arrangements, because they thought they probably actually were too good to be true. They were quite right of course. These schemes have all failed, and the high earners who tried to avoid paying any tax at all by pretending that they were just borrowing money on a temporary basis are going to have to cough up, quite rightly. 5 April 2019 is a significant date - if the recipient hasn't repaid the "loan" (that wasn't really a loan) by then, they'll have to pay all the tax and NI that would have been due on that amount of net income. If they do repay it, they'll subsequently have to then pay themselves properly and pay the appropriate tax.
There's been a lot of disquiet from the people caught out over this, who thought that paying no tax at all on high income was a reasonable course of action to take, but, if it was a loan, then logically it shouldn't be a problem - they always knew that they'd have to pay it back, right? That's what loans are. Surely they wouldn't have spent it all on holidays and cars. If you've not made arrangements to one day repay it, then you can't really have considered it a loan at all - it's almost as if you knew it was permanent income all along...