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Budget 2004 - Tax Treatment Of Small Companies

Following the 2003 Pre Budget Report announcement about reviewing the way in which companies and their directors /managers are taxed, the Government has announced in Budget 2004 that

  • Company profits paid out as distributions (usually dividends) to non-company shareholders will be subject to a minimum rate of corporation tax of 19%.
  • The new minimum rate will apply to profits that are distributed to persons other than companies on or after 1 April 2004. The minimum rate will not apply to distributions made to other companies.
  • There will be special rules to cover groups and to cover the situation where distributions in an accounting period exceed the profits of that accounting period

The information in the question and answer brief below is based on the current proposed design of the measures announced in the Budget. The precise detail may be subject to change and cannot be treated as final until the Finance Bill has received Royal Assent.

Contents

Q1. Will the new rate affect my company?
Q2. We are a large company. Are we affected?
Q3. Will this measure affect groups?
Q4. Will this affect any other liability of the company or its directors (such as PAYE and NIC)?
Q5. Does this replace the IR35 legislation?
Q6. Does the interaction of the new Non Corporate Distribution Rate with the "IR35 legislation" create a double charge?
Q7. How do I work out whether or not I have got to apply the new rate?
Q8. What is meant by `underlying rate'?
Q9. What help is available to work it out?
Q10. If I get the tax due wrong will the company be charged interest or penalties?
Q11. Where do we make a return of the extra tax?
Q12. When is the tax due to be paid?
Q13. When does the new rate start- which distributions? - what profits?
Q14. What happens if the distributions in an accounting period are more than the profits?
Q15. Is there any carry back of excess distributions or losses?
Q16. What happens if the company makes a profit but no distribution?
Q17. What happens if we pay distributions to other companies?
Q18. What do I do about dividends received from other companies when working out the corporation tax due?
Q19. What happens if my company is part of a group of companies?
Q20. My company has paid a distribution but made a loss. Is it correct that the company will not pay tax?
Q21. If companies wish to disincorporate so that the owner once again becomes self employed, what will the tax consequences be?

Mini Glossary

CT: Corporation Tax

PCTCT: profits chargeable to corporation tax

NCD: non-corporate distributions

Q1. Will the new rate affect my company?

A. This will affect companies who are liable to the starting rate of CT or those receiving marginal relief from the small companies rate if they make distributions of profits other than to companies.

Q2. We are a large company. Are we affected?

A. This measure could affect any company. The size of the company is not a determining factor. Rather, the amount of profits chargeable to CT is the primary determining factor (along with the number of any associated companies) as to whether the company will be affected.

Q3. Will this measure affect groups?

A. The measure will affect groups where a company within a group makes a distribution to a non-company shareholder and that company has profits chargeable to CT at the starting rate, or receives marginal relief from the small companies’ rate (see also question 19).

Q4. Will this affect any other liability of the company or its directors (such as PAYE and NIC)?

A. No.

Q5. Does this replace the IR35 legislation?

A. No. Measures to tackle service companies were introduced in 2000 to ensure that individuals could not avoid tax and NI contributions by using a company as an intermediary between them and their engager.

Q6. Does the interaction of the new Non Corporate Distribution Rate with the "IR35 legislation" create a double charge?

  • No Where the company has engagements that are within the intermediaries legislation and is treated as having made a “deemed payment” under that legislation there will not be a double charge on either the individual or on the company arising from the Non Corporate Distribution Rate.

  • Under the existing legislation the individual is prevented from suffering a double charge. Where a company is treated as making a deemed payment and it makes a distribution in the same tax year or in a subsequent year, it can claim relief in order to avoid a double charge to tax on the individual.

  • Relief is given by setting the amount of the deemed payment against the relevant distribution so as to reduce the distribution that is taxable on the individual. This is by virtue of the intermediaries legislation found in section 58(4) of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA).

  • As the relief provided in section 58(4) reduces the distribution it also ensures that for the purposes of assessing corporation tax due, the amount of the distribution taken into account to assess the corporation tax payable will be net of the deemed payment arising from the intermediaries legislation.

  • In addition of course, where the company has engagements that are within the intermediaries legislation and is treated as having made a “deemed payment” under that legislation, that deemed payment and the employers National Insurance Contributions thereon is deductible against the company’s profits for CT purposes. This is provided for by paragraph 17 of Schedule 12 to the Finance Act 2000.

Q7. How do I work out whether or not I have got to apply the new rate?

If your company pays corporation tax at an underlying rate of less than 19% and you make a distribution e.g. pay a dividend to someone other than a company then this new rate is likely to apply. (see examples)

Q8. What is meant by ‘underlying rate’?

A Underlying rate can be calculated as follows:
CT x 100
 
PCTCT

(See examples at question 7)

Q9. What help is available to work it out?

A. If you need further help or advice you should contact your local Inland Revenue office. There will also be full guidance on the calculation in the Company Tax Return Guide. And for those companies delivering their returns on-line the calculation will be done automatically.

Q10. If I get the tax due wrong will the company be charged interest or penalties?

A. The normal interest and penalty provisions will apply.

Q11. Where do we make a return of the extra tax?

A. On your Corporation Tax Self Assessment return.

Q12. When is the tax due to be paid?

A. On the normal due date for the payment of corporation tax for small companies, nine months and one day after the end of the accounting period.

Q13. When does the new rate start- which distributions? - what profits?

A. The new rate when distributions are made to non company shareholders on or after 1 April 2004. Where an accounting period begins before 1 April 2004 and ends on or after that date the profits are apportioned. (see examples)

Q14. What happens if the distributions in an accounting period are more than the profits?

A. Where distributions exceed PCTCT for the accounting period, the excess is taken forward to the next or subsequent accounting periods to be 'franked' against future PCTCT.

Q15. Is there any carry back of excess distributions or losses?

A. The excess will not be carried back and the normal rules apply to losses.

Q16. What happens if the company makes a profit but no distribution?

A. The normal rates of CT apply.

Q17. What happens if we pay distributions to other companies?

A. These distributions are disregarded for the purpose of working out whether the new rate applies. Where there is an excess of distributions over PCTCT only that part of the excess related to distributions to companies is disregarded.

Q18. What do I do about dividends received from other companies when working out the corporation tax due?

A. There is no change to the way profits are calculated for corporation tax purposes. This change only affects the rate at which profits are charged.

Q19. What happens if my company is part of a group of companies?

A. Each company in the group needs to consider if it has made a distribution to a non-company shareholder and what rate of tax applies to its profits for that accounting period.

Where there are insufficient PCTCT in the company to cover non-company distributions (NCDs), there will be rules for allocating the excess to other companies within the group that can absorb the excess. These rules will include:

  • The procedure for allocating excess NCDs
  • Carry forward of excess NCDs.
  • Allocations of excess NCDs proving to be excessive.
  • Degrouping – to cover situations where a company leaves a group.

Where there are insufficient PCTCT within the group to cover the distribution the remaining excess is carried forward to subsequent accounting periods. (see examples)

Q20. My company has paid a distribution but made a loss. Is it correct that the company will not pay tax?

A. If you are part of a group, another company within the group may have the excess distributions allocated to it and that company will pay the appropriate rate of tax. Otherwise the excess will be carried forward and the appropriate rate will apply when you have chargeable profits.

Q21. If companies wish to disincorporate so that the owner once again becomes self employed, what will the tax consequences be?

The normal rules relevant to the transfer of assets and the winding up of a company will apply.

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