The following scenarios could all be examined based on what has been covered in example 1:
- Deciding whether an individual should operate as a sole trader or as a limited company.
- Deciding whether to incorporate a sole trader business.
- Deciding how much profits to extract from a limited company by way of salary compared with taking dividends.
A scenario need not necessarily relate to a single person, and could, for example, deal with the incorporation of a partnership.
To keep a question at the appropriate length, you will often be given some aspects of the answer. For example, you might be given the tax and NIC cost if an individual operates as a sole trader, and then have to calculate the cost of operating as a limited company. Alternatively, you might be given some of the separate tax or NIC costs. It is very important that you appreciate which figures you have already been given so that you do not waste a lot of time calculating them for yourself.
The interactions involved in this type of question can often cause problems. For example, director’s remuneration reduces the taxable total profits of Amphibian Ltd, but is then taxed as income in the hands of Newt. In contrast, the payment of dividends does not impact on the calculation of Amphibian Ltd’s corporation tax liability. There are a couple of basic principles that you should remember:
- If all of a company’s profits are paid out as director’s remuneration (and related employer’s class 1 NIC), there will not be any corporation tax liability.
- If profits are only drawn as dividends (or if director’s remuneration is below the NIC lower threshold), there will be no NICs.
Inheritance tax (IHT) and capital gains tax (CGT)
Although the interaction of IHT and CGT is not examinable at TX-UK, the two taxes could be examined within the same question and the information given could be relevant to both taxes.
For a lifetime gift of unquoted shares, the IHT transfer of value will be based on the diminution in value of the donor’s estate. In contrast, for CGT purposes the valuation will be based on the market value of the shares gifted.