Allowable and disallowable trading expenses

If you run a business, it is important for you to understand the difference between allowable and disallowable trading expenses for tax purposes.  Improper understanding of them can result in you paying incorrect amount of tax.

Generally speaking, an expense is allowable for tax purposes if it is incurred "wholly and exclusively" for business purposes.  If you are running a fish and chips shop, the costs of the fish you buy and the employees you hire are allowable as they are incurred for the purposes of running your fish and chips shop.

What if a person is working from home and using it partly for business purposes?  If you can clearly distinguish the business element from the private element in the total premises costs, you can claim the business proportion of the expenses. 

If it is impossible to distingush the business element in your premises expenses, it is acceptable to claim a certain percentage of your premises costs as your business expenses, as long as the percentage you use is modest and reasonable (from HMRC's point of view).  For instance, in most cases,  it would be reasonable to claim 40% of your premises costs as use of home as office.

You can apply the same method to other business-private mixed expenses such as telephone and mobile expenses, motor expenses and travel expenses etc.

Of course, in real life, it is not always a black and white issue as to what you can and cannot claim as business expenses.  Below are the few usual suspects of disallowable expenses:

• Client entertainment (except for staff entertainment, in which case your staff may be taxed if the amount is excessive);
• High-valued gifts (exceeding £50 per person per year);
• Costs of business equipment (however you can claim capital allowances on the costs);
• Accountancy fees related to tax disputes (accountancy fees for the preparation of trading accounts and tax return are allowable);
• Legal fees related to the purchases of business equipment (however you can treat it as part of the equipment expenses and claim capital allowances accordingly);
• Personal and private expenses such as ordinary clothing, motor expenses incurred for private purposes (however you can claim the business proportion of the expenes);
• Late payment interest on unpaid tax;
• if you are working from home, capital repayment of your mortgage (however you can claim part of the interest element of your motgage payments);
• Depreciation you charge on your trading accounts (how you can claim capital allowances).

Generally speaking, to work out the taxable trading profit for your business, you deduct your expenses from your business turnover and add back all the private (if any) and disallowable (if any) expenses.  It is not as complicated as it might seem.

Dinosaurs must file a paper Self Assessment Tax Return by 31 October 2011

If you think like an ancient dinosaur and prefer to do a paper Self Assessment Tax Return, you must file your paper return by 31 October 2011.  If you file it after that date, you will get a penalty of at least £100, not to mention any daily penalties and tax geared penalties you may be liable for.

The penalty is still payable even if you file your paper tax return before 31 January 2012 (deadline for online tax returns).

There are two things you can do with your tax return:

1. Accept the reality.  Dinosaurs are not meant to survive in the 21st century, so why do you want to do your tax return in the dinosaur way?  Register for online services on the HMRC website and do it online by 31 January 2012 (you've got three more months to do your tax return if you are not a dinosaur).  Here is their website: Register for online services.
   
   
2. Proud to be a dinosaur and file your paper tax return by 31 October 2011.

Whether or not you are a disnosaur, just remember HMRC are T. Rex preying on your wallet.  So whatever you are, you must file your tax return before the deadline or end up getting a huge late filing penalty from the T. Rex.

Self-Employment vs Limited Company 2 - Simple Tax Comparison

As we said in our previous post, running a business through a limited company usually gives you tax advantages.  Below is a very simple comparison of tax liabilities between self-employment and incorporation:


Suppose Cheryl is a pop musician and her annual trading profit for the tax year 2011-12 is £30,000.  Is she better off as a sole trader or limited company?


What if she is a sole trader ...

Assuming Cheryl has no other taxable income, the income tax payable on her self-employed income of £30,000 would be (£30,000 - £7,475) × 20% = £4,505.

(£7,475 is the personal allowance she is entitled to.)

As she is self-employed, she is liable for both Class 2 and Class 4 National Insurance Contributions.

Class 4 National Insurance Contributions = (£30,000 - £7,225) × 9% = £2,050.

Class 2 National Insurance Contributions are payable at a rate of £2.50 a week, which is equivalent to £130 a year.

Therefore, if she is a sole trader and earns £30,000 in the tax year, her total tax liability would be £4,505 + £2,050 + £130 = £6,685.  Not too bad.


What if she is a limited company ...

If Cheryl decides to trade as a limited company, as a rule of thumb, the most tax-efficient fund extraction strategy can be achieved by paying herself a "nominal" salary from her company (equal to the National Insurance lower earnings limit). 

As her "nominal" salary is tax-deductible from the company's point of view, her salary is deducted from the company profit and the company pays corporation tax on the remaining profit.

Once the corporation tax is deducted from the company profit and loss account, it will be distributed as dividend to Cheryl.

Below are the calculations:

As she receives a "nominal" salary from her company, we can deduct £7,225 from the company profit .

However, there will be a sneakily small amount of national insurance due on her salary.

Employer National Insurance Contributions = (£7,225- £7,072) × 13.8% = £21.

As national insurance is tax-deductible, the company will be paying corporation tax on £30,000 - £7,225 - £21 = £22,754.

Corporation Tax = £22,754 × 20% = £4,551.

The amount of profit which is distributed as dividend to Cheryl is therefore £30,000 - £7,225 - £21 -£4,551 = £18,203.

Remember it is the net amount of dividend she receives from her company.  We need to gross it up.

Gross dividend to Cheryl = £18,203 × ¹⁰⁰/₉₀  = £20,226.

The difference between her gross dividend and net dividend, i.e. £2,023 is the tax credit she can deduct from her income tax liability.

Income tax is payable on her "nominal" salary - £7,225 and her gross dividend - £20,444.  Remember, while the basic tax rate on salary is 20%, the basic tax rate on dividend is 10%, which is why running a limited company can save you tax.  The calculation of her income tax is as follows:

Income tax on her salary = max(£7,225 - £7,475 , £0) = £0.

She uses most of her personal allowance against her "nominal" salary.  As she has got £250 of personal allowance left, we can use it against her gross dividend.

Income tax on her dividend = (£20,226 - £250) × 10% = £1,998.

Therefore, the total income tax liability is £0 + £1,998 = £1,998.

However, we need to deduct the tax credit on dividend of £2,023 from her income tax liability to arrive at the amount of income tax payable.

Total income tax payable = max(£1,998 - £2,023 , 0) = £0.

There is no employee national insurance due on her "nominal" salary (as it is equal to the National Insurance lower earnings limit) and no national insurance due on her dividend either (as it is outside the scope of National Insurance).

Therefore her total tax liability (employer national insurance, corporation tax and income tax) = £21 + £4,551 + £0 = £4,572.  Oh My God.


Conclusion

The tax savings as a result of running a limited company are £6,685 - £4,572 = £2,113.  What a difference a limited company makes. 

So as you can see, it doesn't take a "precious accountant" to help you save (and avoid) tax and you don't need to be as rich as Cheryl to get good tax advice.

Self-Employment vs Limited Company 1 - Overview

When you start a new business, the first question you need to ask yourself is "should I start as a self-employed business or a limited company".

Below are the differences between trading as a self-employed business and limited company:


Income Tax and National Insurance Contributions

Experience tells us that in most cases, trading as a limited company usually give you tax advantages, provided you have the most efficient fund extraction strategy.

If you are self-employed, you are paying income tax and Class 4 National Insurance Contributions on your self-employed profit, as well as Class 2 National Insurance Contributions at a fixed rate of £2.50 a week (for the tax year 2011-12).

If you are running a business using a limited company, your company will pay corporation tax  on the net profit it generates while you pay income tax on the salary and dividend you receive from your company.

Due to the "peculiar" nature of the UK tax system, the combined effective tax rate is lower if you trade as a limited company.  For a detailed  (and rigorous) comparison of tax liability between self-employment and incorporation, please read our next post (Self-Employment vs Limited Company 2  - Tax Liability Comparison).


Administrative burdens

Trading as a limited company generally involves more "form-filling exercise" and hence increases the administrative burdens on your shoulders.

If you are trading as a self-employed business, the only form you need to complete is your Self Assessment Tax Return.  You only need to do it once a year and for some "non-number-fearing" people, it should be quite straightforward.  Generally speaking, all you need to do is to work out your gross revenue and deduct the business expenses from the gross revenue to arrive at a figure for the net business profit.  You then work out your tax liability on the net profit.

If you are not quite comfortable with working with numbers, you may appoint an accountant to do the job for you.

If you are trading as limited company, you will need to do Self Assessment Tax Return for the salary and dividend you receive from your company.  In addition, you need to file a Company Tax Return for your limited company as well as a Company Annual Statutory Accounts and Annual Return with Companies House.  They all have very strict deadlines you need to meet.  Failing to meet those deadines may result in Companies House proposing to strike off your company.  Doesn't it sound scary?

Therefore, people trading as a limited companies usually ask accountants to take care of all accounting and tax aspects of their limited companies for them.


Costs

Generally speaking, it is more costly to run your business through a limited company than as self-employed, in terms of time and money.  Running a limited company involves more paperwork and is therefore more time-consuming.  Your accountants may charge you more if you are trading as a limited company because of higher workload.


Credibility

People tend to perceive a limited company as more credible than a self-employed person and therefore you may need to take that into account when considering whether or not to run a limited company.


Your liability if your business goes bust

One of the consequences of trading as a limited company is that your liability for the company's debts and failure is "limited" (in most cases) because your company is a separate legal entity from you and therefore your company is liable to its own debts.

Your maximum financial liability for your company's debts is the amount of money you put in the company and the chances of your creditors being able to take your personal assets (such as your houses) to settle your company's debts are very slim.

However, if you are a self-employed person, you are personally liable to your business debts.  If your self-employed business goes bust, your creditors can come after you and take your personal assets away to pay off your self-employed business debts (which are your personal debts after all).

Therefore, by incorporating a limited company, you are protected from the risk of your company going bust.


Exit Strategy 

It is easier to implement your business exit strategy if you are trading as a limited company.  Shares in your limited company can be valued with credibility based on the accounts and other documents you have filed with Companies House and other organisations.  The buyers of your company business can assess the past performance of your company and therefore determine the fair value of your company using the formal/official documents you have produced for the company.

If you are running a self-employed business, your accounts are more likely to be produced on an "ad hoc" basis and may look less credible from the buyers' perspective and therefore it may be more difficult to sell your self-employed business.

Why you shouldn't do bookkeeping yourself

We have a confession to make. As an accountant, doing bookkeeping, VAT returns and accounts for our own accountancy firm is always the last thing in our mind.

Of course, as an efficient accountant, we always do our VAT returns, accounts and tax returns in time.

However, if doing bookkeeping is the last thing on the "things-to-do" list of an accountant like us, we can't see why an ordinary small business would have the enthusiasm and commitment to do the bookkeeping job for their own business.

Here are the reasons why you shouldn't do bookkeeping yourself:


Time-consuming

You may decide to keep your books of accounts using excel spreadsheets or other accounting software such as ClearBooks, FreeAgent and KashFlow.  However easy to use spreadsheets or accounting software, you still have to sit in front of your computer, flipping through piles of invoices, receipts and bank statements and entering each transaction into your computer, and it takes time and effort.

Assuming the number of transactions of your business is around 1,000 per annum, which is approximately 80 per month.  If it takes you at least 90 seconds to post a transaction into your computer, it will take you at least two hours to post all the transactions in the month. 

Can't you think of a better way to spend two hours in your life than sitting in front of your computer burying your head in piles of invoices and receipts?


Money-wasting

Many people are tempted to do bookkeeping themselves, thinking that by doing so, they can reduce the fees their accountants charge them.  We can tell you that it is completely a myth.

If you decide to use accounting software, you will end up paying licence fees for the software.  If you use excel spreadsheets, your accountants will try their best to find "flaws" on your spreadsheets in order to justify the extra time they spend to correct your "flaws" and therefore the extra fees they charge you.


Are you a competent bookkeeper?

Are you a well-trained bookkeeper? If not, how can you be sure that you've done your bookkeeping correctly? If you've got it all wrong, who is going to clear the mess for you? Your accountants? If you ask your accountants for "help", aren't you giving your accountants an "excuse" to charge you a fee for "helping you out"?


Bookkeeping is the last thing on your "things-to-do" list

For many people, doing books of accounts is the absolute last thing in their mind and for no particular reasons, they always leave it until the last minute to start doing the work.  Needless to say, they are very likely late on filing their accounts and tax returns and end up paying penalties for late submission.


Bookkeeping is very boring

To be honest with you, as an accountant, we can tell you  bookkeeping is very boring.  A well-trained bookkeeper is "well-trained" not only because they have the required level of bookkeeping knowledge to do the job but also because they are "trained" to "sustain extreme boredom".

All we can say is bookkeeping is not a job for everyone.  Although many people may perceive it as an "easy job", it is definitely boring and is not everyone's taste.

Because it is boring, a "non-trained bookkeeper" (i.e. an ordinary person lie you) tends to lose concentration while doing the job and as a result mistakes are made.  It is extremely time-consuming to find the mistakes and correct them accordingly.


What if mistakes have been made

To locate the mistakes you have made on your spreadsheets or accounting data must one of the most frustrating things you come across in your life.  After posting 1,000 transactions into your computer, you notice something not quite right and conclude that mistakes have been made.  However, you don't know how many mistakes you have made nor do you where you have made the mistakes.  Isn't it driving you crazy?

Alternatively, you may approach your accountants and scream for help.  What will happen next?  Your mistakes will be corrected at the expense of your wallet.



So if bookkeeping is so time-consuming, cost-inefficient and boring, why are you still doing it when you can ask cheap accountants like us to do it at a cheap price?

Visit our website

Five Types of Accountants

As we all "know", there are five different types of accountants in the UK.

Traditional Accountants

Traditional accountancy businesses are run on a high profit margin but low volume basis.  Their working procedure tends to be bureaucratic and "traditional".  Their business approach (if any) is retrospective, introverted and irresponsive to the outside world. 

Most of the tradiontal accountants charge their clients high (if not exorbitant) service fees simply because they can and they cleverly take full advantage of the loyalty of their clients.  The favourite pricing methods of traditional accountants are hourly and turnover basis as it is considered to be the most efficient way to "justify" their huge accountancy bills.

The quality of the services to their clients is very low on their priority list as, being an tradtional accountant, they are "a bit" (if not deliberately) ignorant of what their clients really feel about the services they receive.  Some of them are even more concerned with the quality of the ties they wear at the meetings with their clients than the quality of the services they actually provide for their clients.  Isn't it sad?


E-Accountants

E-Accountants do things pretty much in an E way.  You DIY your bookkeeping even though you are not a professional bookkeeper.  The accounting software they recommend you to use includes ClearBooks, FreeAgents and KashFlow.  Some of them may even recommend you to use Sage and QuickBooks. 

E-Accountants tend to charge lower fees than traditional accountants because you are supposed to do 80% of the bookkeeping (and accounting) job yourself.  E-Clients, while paying lower fees to their E-Accountants, are required to pay subsciption or licence fees for using accounting software. 

Although bookeeping is not as "professional" a job as accounting, it does not mean you, as a non-professional bookkeeper, should do bookkeeping for your business on a DIY basis.  Doing bookkeeping, as we all know, is always a tedious and time-consuming job, no matter how you do it.  DIY bookkeeping together with E Accounting is a recipe for disaster.


Pigeon Accountants

Pigeon accountants relieve their clients of bookkeeping duty by sending freepost envelopes to them so that their clients can send business stuff  to their pigeon accountants using the envelopes.  The pigeon accountants can then do the bookkeeping in a pigeon style -  simple and efficient.

Because pigeons tend to run a business on a low profit margin but high volume basis (completely oppposite to traditional "human" accountants), pigeon clients tend to get a very low fee.

As your business stuff is delivered by pigeons, a few problems may occur:

1. Your pigeons can get lost;
2. Your pigeons can get killed by eagles or hawks;
3. Your pigeons can be too busy looking for food or mating with each other;
4. Your pigeons can be eaten by pelicans as shown in this video.

Donkey Accountants

As in other professions, there are always a few (if not too many) bad apples.  Donkey accountants are accountants who talk like a donkey, think like a donkey and act like a donkey.  They are as incompetent as donkeys.

How to spot donkey accountants?  It could not be easier to spot donkey accountants.  A typical donkey accountant has a long face with two eyes, one nose, one month and two ears.  So if your accountant matches the descriptions above, he might be a donkey accountant.


Turf Accountants

Are they accountants?

Who are we? We are cheap accountants and we are proud of being cheap.

Who are we?  As the blog suggests, we are Abbi Becka Accountancy.  We are cheap accountants dedicated to providing cheap and hassle-free bookkeeping and accountancy services to small businesses across the UK.

Cheap Accountants

For just £15 a month, you can get your bookkeeping, annual accounts and tax return done by us professionally.

Our monthly fixed fees cover absolutely every service we can provide for you, such as tax advice, company formation and business start-up.

Although our services are cheap, the quality of our services are by no means compromised.

Hassle-Free Accountants

Having been working in the industry for many years, we understand how frustrated business owners feel when it comes to keeping books of accounts.

That is why instead of asking our clients to maintain accounting records by preparing excel spreadsheets or using accounting software, we send a freepost envelope to our client every month so that they can send us all their business stuff (such as sales invoices and bank statements) using our freepost envelopes.  On receipt of the business documents you sent through, we post all the transactions into our computer system, prepare your VAT return (if applicable), trading accounts and tax return and file them for you with HMRC (and Companies House).

Get an instant quote from us

One more feature of our accountancy firm is the transparency of our pricing system.  Everyone can get an instant quote from us on our website.  Instead of ringing up the accountants and getting a quote from them on the phone, you can simply visit our website and go to Give me an offer price section and get an offer price from us.  If you like our offer price, you can accept our office price by submitting the form to us and we will contact you as quickly as possible.


Visit our website