Every business has expenses it may deduct against corporation tax on profits, but are you certain that they are allowable?
To be sure, the best test is to apply:-
Is the expense "reasonably incurred; wholly and exclusively incurred or spent"
Professional Contractors and Freelancers need to be sure how to apply this test and know what the pitfalls are.
HM Revenue and Customs have precise guidance on what is and is not allowable for tax purposes, according to their Decision Makers Guide (DMG35002):
In all cases an expense is allowable only if
1) it is not excluded by regs (DMG35103 et seq) and
2) it was reasonably incurred (DMG35004) and
3) it was wholly and exclusively (DMG35007)
3.1) incurred for the purpose of the business (DMG37103) or
3.2) spent for the purpose of the business (DMG35009) and
4) it was
4.1) relevant to the assessment period (DMG37105) or
4.2) spent in the assessment period (DMG33206 3)
The decision maker should consider each item of expense separately
When deciding on whether each expense is deductible, a Professional Contractor or Freelancer needs to consider the following:
1) Does any person benefit from the expense item personally?
2) Is the expense item for self-interest or use as opposed a necessity for the business only?
3) Was it claimed for out of the accounting period to which it accounts to?
If any of the points above are applicable then the test will fail and the expense will not deductible for tax purposes.
If an expense that is not tax deductible is paid for by the company, then this expense should be reported on a P11d and a personal tax charge will result for the director. The Limited Comapny will also suffer a Class 1a National Insurance charge.
IR35
IR35 status is still important when looking at expenses.
For a Professional Contractor and Freelancer trading outside IR35 it is not tax effective to claim expenses that are the reported on a P11d and on which a tax charge is raised.
It would be more tax effective to pay for the expense personally through earnings from Dividends.
For a Professional Contractor or Freelancer trading Inside IR35 the scenario is different.
In calculating the Deemed Payment on which Employers NI, Employees NI and Tax is paid, there is a deduction for P11d benefits in kind paid for by the company for the director.
As there is no Employees NI on the benefit in kind charge, there may be a tax saving if the expense ius paid for by the company and a P11d Benefit in kind charge reported.
The Pitfalls
HMRC have a stiff regime for penalties for errors that could result in your company receiving a fine not taking "reasonable care".
To avoid this, whenever you have a doubt over an expense it is adviseable to seek professional advice from your accountant and keep evidence of having done so.