CLIENT NEWSLETTER - SUMMER 2007
“ACTIVE ACCOUNTING AND TAX”
INTRODUCTION
No, you haven’t missed a major announcement from the new Chancellor of the Exchequer, Alistair Darling or one of his fresh-faced colleagues – there has been a complete change in all ministerial positions at the Treasury, even Dawn Primarolo has moved on, but the infamous Husband and Wife tax case has ended in the House of Lords and the VAT mileage rates have changed for the second time this year.
The dust has also begun to settle on the Finance Act 2007 and there is a long-term planning point on capital allowances I need to draw to your attention. Finally, the Tax Credits deadline for 2007/08 has now passed and there are a couple of other VAT points I need to mention; hence a Summer newsletter this year.
1. TAXATION OF OWNER-MANAGED BUSINESSES – THE HUSBAND AND WIFE TAX CASE (ARCTIC SYSTEMS)
As has been quite extensively reported in the press, I am very pleased to be able to confirm that the House of Lords has decided this case, unanimously, in favour of the taxpayer.
Most professionals had always thought this had to be the outcome and our advice to all clients that might have been affected by this decision was to "stay put" and wait and see. The decision now gives certainly as to the position of companies in similar positions to Mr and Mrs Jones of Arctic Systems Limited for tax years up to and including 2007/08, but, regrettably, the Treasury very quickly announced they would now change the law.
Proposals concerning this can be expected at the time of the Pre-Budget report in late November or early December, to take effect from April 2008. We will of course keep a very close eye on these proposals and contact all clients who could be affected. Over the last few years, it has unfortunately become the case that hastily drawn up "anti-avoidance" legislation often affects a much greater range of situations than the one that was originally targeted – IR35 is the best case in point!
Both the Institute of Chartered Accountants and the Chartered Institute of Taxation have already urged the Government not to introduce new rules without appropriate consultation and consideration of the overall impact – let's hope on this occasion they are listening.
I must admit I had thought that following the announcement of increases to the small companies rate of Corporation Tax from 19% to 22% in 1% annual increments, the Government had "given up" on more complex reforms, but the speed of the Treasury announcement after the Lords' decision in this case – later the same day, undermines my optimism.
PAH comment: Before leaving the Arctic Systems case, I need to make one comment - what is worrying about this decision is the process that had to be gone through to reach it and what that means for the self-assessment system in the UK; I set out my thoughts on this at the end of this newsletter.
2. VAT AND MILEAGE PAYMENTS
When the new reduced "Vatable elements" within mileage payments at the 40p/25p mileage rates were announced back in January 2007, HMRC advised that if fuel prices changed by more than 10% they would revise the table again – guess what! A new table has now been announced for use for mileage undertaken after 1 August 2007, as follows:
| Engine Size | Petrol cost (per mile) | Petrol cost (per mile) | Diesel cost (per mile) | Diesel cost (per mile) | LPG cost (per mile) | LPG cost (per mile) |
| NEW | OLD | NEW | OLD | NEW | OLD | |
| 1400 cc or less | 10p | 9p | 10p | 9p | 6p | 6p |
| 1401 - 2000 cc | 13p | 11p | 10p | 9p | 8p | 7p |
| over 2000 cc | 18p | 16p | 13p | 12p | 10p | 10p |
Please note that the "new" figures above are not exactly the same in all categories as the figures that were used before 1 February 2007.
From now on, we will be asking clients who provide us with information about mileage for a set of accounts ending in 2007, to let us know the mileage up to 31 January 2007, from 1 February to 31 July 2007 and then from 1 August 2007, such that we can make the appropriate adjustments on your behalf.
Please make sure, if you have imbedded formulae in spreadsheets or your accounting system, to calculate the VAT on mileage claims automatically, these are adjusted to take account of the new figures above. It you have any difficulty in doing this, please do not hesitate to give Kim or me a call.
PAH comment: Whilst it is pleasing to see HMRC have kept to their promise to increase the figures following a 10% rise in fuel prices, fuel being the main item that causes HMRC's views on the VAT element within the mileage rate to change, the cost to business of making such changes more than once a year has clearly not been considered and this is not in accordance with another rule that says changes to legislation should only be made in April and October each year, but never begrudge additional input tax!
3. INVOICE NUMBERS FOR VAT PURPOSES
I have come across some misinformation that all businesses are going to have to change their invoicing systems to meet new VAT requirements – THIS IS NOT CORRECT! What some new rules do say is that all invoices issued by registered traders should be part of one or more sequences.
Many businesses use just one numerical sequence – Paul A. Hill & Co. included and that will of course continue to be fine. It also does not matter if a new business wants to start other than at invoice no. 1, starting at 1001, for example – so the first customer doesn't perhaps realise they are getting the very first invoice ever issued, but the sequence should then go from there.
Using gap of, say ten, between numbers – 1001, 1011, 1021 is also fine, e.g. if there are sub-components that might be on different delivery notes for example.
It is also perfectly fine to use "customer-based" numbers; in this case, there would be more than one sequence. If you had three customers called Adams, Brown and Carter and had separate invoice sequences say starting ADA1, BRO1 and CAR1 etc, followed by, say, ADA2, ADA3, CAR2 and BRO2, or similar, then that is also fine.
Planning point: What may be important, however, is to keep evidence of why a particular number HAS NOT been used. When undertaking a VAT enquiry, HMRC officers will want to look for "understatement" of sales – one way of doing this is to ask questions about any "gaps" in the invoice sequence and it is to enable this that the new rules have been introduced.
Accordingly, where an invoice number is NOT used, it will be important to keep a note of why. If you have a pre-printed invoice sequence and one is "spoiled" for any reason, I suggest you keep the spoiled invoice, suitably crossed-through, in the same folder all the good ones are retained in – for inspection if required.
4. VAT REGISTRATION AND DEREGISTRATION
HMRC has introduced new procedures and at present there are significant delays in obtaining new VAT registrations and even getting them to acknowledge when a deregistration is requested. The professional bodies have made high-level complaints about this, but the Government is determined to stamp out fraud in VAT – there is evidence this is continuing to be a significant problem and looks unlikely to budge.
In addition, something like 10% of applications are being sent to a special unit and they are sending out a letter telling you not even to bother to chase this up for further 12 weeks! There is anecdotal evidence that if one of the applicants for a new VAT number is associated with a pre-existing number, then such an application will be sent to this special unit, who will want to understand all of the relationships between the various different businesses involved. HMRC's theory is that closely connected businesses might pass goods between them without dealing with VAT properly and this could result in loss to the Exchequer; we have one registration that was applied for in April and has still not been finalised.
Planning point: If you are not currently registered for VAT and expect to have to do so, either compulsorily or voluntarily, we have to recommend an application be made at least six months before the expected registration date.
Whilst there are processes you can use when a registration application has been submitted, but no VAT number yet issued, these are cumbersome and can be expensive, both in terms of the paperwork involved and commercially – your customers will not be able to claim back VAT on invoices you send them until such time as your number is granted.
5. CAPITAL ALLOWANCES AFTER 31 MARCH 2008
In the period since the Budget, there has been much talk in the professional press about the significance of changes to capital allowances for the plant and machinery etc, used in your business; these are due to come in for items purchased from April 2008.
Whilst the Chancellor will argue the overall thrust is one of simplification – and it is for businesses without buildings spending less than £50,000 per annum on fixed assets, for those with buildings and spending more than that, there are possibly significant reductions in the allowances available.
At present, most expenditure on plant and machinery attracts a "First Year" allowance of 50% - no matter what the overall level of expenditure, with a 25% "Writing Down" allowance, on a reducing balance basis, being available in future years. For expenditure from April 2008, there will effectively be a 100% allowance on expenditure up to £50,000 per annum, but only a 20% writing down allowance, again on a reducing balance basis, on any excess – as I say, this could be a significant reduction in some cases.
General comment: You should NEVER do something solely for tax purposes, it very rarely pays, but if you are going to do something "anyway", considering whether or not the expenditure should be before or after 31 March 2008, could significantly change the speed with which you receive tax allowances on that expenditure. There are a lot of "wrinkles" in this though – please take specific advice on your particular plans! We should be pleased to discuss this with you – give either Kim or me a call to set up a meeting.
Planning point 1: If you expect your expenditure on fixed assets to be less than £50,000 in a year, then you may wish to consider deferring expenditure to after 31 March 2008, such that more allowances are due in the year of purchase. This will probably NOT be appropriate for a business with a year-end of 31 March and those with a year-end shortly after that date may need to make sure the expenditure is made before their subsequent year-end.
Planning Point 2: However, if you expect your expenditure on fixed assets to be more than £50,000 in a year and are in a position to bring forward expenditure planned for shortly after March 2008 to that month or earlier, there may well be a significant advantage. If you are bringing expenditure forward, but the items concerned cannot be delivered or installed before 31 March, it is extremely important some specific rules are followed to make sure the date of the expenditure qualifies as being on or before 31 March 2008 – again, please contact us for further details.
Planning point 3: There are also changes to expenditure on buildings that provide the "ambience" in which you trade. In certain circumstances, this has been treated as plant and machinery in the past, but it is now to be treated differently, with again very much reduced allowances. If you would like some more information on this, again, please do not hesitate to get in touch.
6. TAX CREDITS ANNUAL RETURN DEADLINE – 31 JULY 2007
For the second year running, this deadline has been brought forward by a month – this time to 31 July. If you claim tax credits, even the £545 family element only, you are required to notify certain changes in your circumstances and may have been required to make an annual declaration.
Planning point: If your tax credits stop suddenly or you have any other queries, please do not hesitate to give Linda Harrison a call for further advice.
7. WHY THE HOUSE OF LORDS JUDGEMENT IN ARCTIC SYSTEM IS A PROBLEM FOR A SELF-ASSESSMENT SYSTEM
As noted above, on 25 July, the House of Lords found for the taxpayer in the case of Jones v. Garnett, sometimes known as “the husband and wife” tax case or Arctic Systems, the name of Mr & Mrs Jones’s company, which had been dragging on for a considerable number of years – in total for some 8 years!
The facts of the case have been discussed in both the accounting/taxation and ordinary press at some length and are therefore not the subject of these remarks, but the effect of some comments made by their Lordships in their judgement mean, in my opinion, the tax system for owned-managed business in the UK is in chaos.
Without getting into too much detail, let us look at the judicial process. In essence, there were two points of law, the first one being whether some arrangements the Jones’s made constituted what is known as a settlement; the second that if the arrangements were a settlement, was a special exemption available.
It must be remembered that the UK operates a “Self Assessment” tax system. This means it is the responsibility of each business and individual to consider the tax system and to submit tax returns in accordance with the tax rules. However, the tax system needs to be designed such that if not businessmen/taxpayers themselves, at least their advisers have some realistic chance of reviewing the circumstances of a particular case and then applying the rules to reach a sensible conclusion. The advice given to Mr. and Mrs. Jones was that the transactions they had undertaken were perfectly legal within the tax system as it stood at the time and there should be no difficulty – I have no doubt I would have given exactly the same advice.
However, the Inland Revenue, as it was then, or more to the point just one particular Tax Inspector in the first instance, but the ranks quickly closed around him, took a different view and after some 4 years of argument, the matter was referred to the Special Commissioners of Income Tax. The Special Commissioners are the first port of call where a dispute between HMRC and a taxpayer is on a point of tax law, as opposed to the facts of a matter.
In this case, two commissioners heard the case and one found for the taxpayer and one found for HMRC. However, technically this decision was for the Revenue as the senior commissioner found in their favour on both points,
Although HMRC has never recognised this as a test case and therefore been prepared to fund both sides of the argument, the Professional Contractors Association and various professional bodies did recognise the importance of the principles in Jones v. Garnett and therefore, very luckily, Mr & Mrs Jones were able to take the matter further – the cost of an appeal to the High Court can be prohibitive.
Accordingly, the Jones’s appealed against the decision of the Special Commissioners and at this stage, Mr Justice Andrew Park found for the Revenue on both issues, but his main reason on the second one was different from that of the senior commissioner.
In due course, the case found its way to the Court of Appeal where, contrary to Mr Justice Park, the Court found against the Revenue on the first issue, this deciding the matter, but pointed out it would have been for them on the second issue, although disagreeing with the reason of the senior commissioner – are you are following this!
Now in the House of Lords, whilst the result is the same as in the Court of Appeal i.e. a finding in favour of the taxpayer rather than HMRC, their Lordships have agreed with the Revenue on the first issue, but are against them on the second!!!!!
This cannot happen in a Self Assessment system – it is chaos. We have a tax system so complex and with so many opportunities for the arrangement of one's affairs in a particular manner to save both Tax and National Insurance, that for an adviser not to advise a scheme whereby Tax and NICs can be reduced, could be deemed negligent. However, if the tribunals and courts cannot agree on what the rules are in a relatively simple situation and it takes 8 years, with five conflicting legal opinions from experts with unlimited time to consider the matter to get to the point that what Mr and Mrs Jones did was perfectly OK, then how on earth can any "normal" businessman, even with the help of advisers, ever hope to "self-assess"?
Perhaps, the only answer at this point is to throw away all of the legislation relating to the taxation of owner managed business and “start again”. There are models in a number of different countries that might would avoid a lot of the problems in the UK system, but what is the immediate response from the Treasury, who are responsible for tax policy – HMRC nowadays only being responsible for assessment and collection, they will now legislate to make sure that people in Mr & Mrs Jones's position cannot “get away” – their expression, with paying less than the “right amount of tax”, an expression coined by the previous Chancellor for what he believes to be the right amount of tax notwithstanding that he presides over a tax system – or at least his predecessor did, that is ambiguous in the extreme.
Let us hope that proper consideration of the more farcical aspects of this case will lead to informed debate on the future of owner-managed business taxation in the UK without the need for knee-jerk reactions. I suggest, over a period of five years, possibly more, a move to a different system is the only sensible way forward.
As always, if you have any queries or should like to follow up on any matter, please do not hesitate to contact Kim, Linda or me.
