Downturn action – tax issues
The need to reduce the UK’s public debt means that, just as we start looking forward to recovering profits, there is the prospect of higher taxes to come. The 50% rate for those earning over £150,000 a year starts on 6 April
Profitability is far from fully restored and management still face decisions they would rather not have to take.
For those who have put off cost-cutting measures, it does not appear likely that turnover will recover in 2010, or at least certainly not the extent that had been hoped for.
As usual there are wide-ranging and sometimes conflicting considerations to bear in mind when taking financial action. Tax is only one aspect of financial management and should rarely be the determining factor.
However, as plans for the coming year are shaped, it is worth considering how your objectives can be reached in the most tax-efficient way. This concerns both the rate at which your income would be taxed and the rate at which expenditure would attract tax relief.
For surveyors business staff costs are usually seen as the most significant variable cost. We have already seen firms losing staff recently and further redundancies cannot be ruled out as the economy struggles back to growth.
Firms often take it as a given that one can pay up to £30,000 as a tax-free ex-gratia payment to departing staff but this is not always the case.
The legislation is tailored specifically to cover only genuine (and properly followed through) redundancy or compensation for loss of office.
Exemptions will not apply, for example, to an arrangement whereby a long-serving member of staff might receive a lump sum payment upon taking early retirement or where a settlement is offered to an employee after a period of extended sick leave.
The other significant cost a firm bears is that of its office space. Some are now looking at their space levels to see how well these are matched to the requirements of a firm that may have downsized in a recession.
Yet, shrinking space commitments is not easy outside of break clauses. The flip side of a difficult economy is that a landlord may accept a sum to agree to the surrender of a lease but you need to be aware that this would normally mean making a tax-inefficient capital payment.
There will, however, be tax-efficient measures you can adopt instead to achieve the same result. One thing firms should consider if they find themselves unable to offload surplus space is whether they could mothball the surplus space to claim tax relief on the onerous lease cost going forward under accounting standard FRS12.
The alternative of spreading out (giving everyone more space to rattle about in) may defer the accounting pain of a FRS12 provision, but it will also defer the tax relief.
Others will find themselves in a situation where their leases are about to expire. This may provide the opportunity to reduce their total space occupancy or enable them to move to better accommodation at a lower rental cost.
However, the stalled commercial property market means more than just the potential to negotiate lower rents – it can also be the cause of unexpected charges. In the boom times a landlord would look to redevelop vacant office blocks such that dilapidations claims would not be levied on departing tenants.
With finance harder to come by, landlords are far less likely to be redeveloping sites and so will be looking to maximise dilapidations claims.
Departing tenants should remember that full tax relief will only be available on the “revenue” element of the dilapidations settlement, not the “capital” part.
In order to be able to make a backed-up claim for tax relief, tenants should ensure they have documentary evidence of the revenue element, as HM Revenue & Customs are looking at these settlements in increasing detail.
‘Cash is king’ will be a mantra often stated during hard economic times. Traditionally, 31 January and 31 July every year are recognised as being dates of big cash outflows, when partners’ tax bills are paid.
A key concern here is the fact that there is a time lag between changing profit levels being translated into changed tax payments. Thus low profits in 2009/10 will give rise to low tax liabilities.
Profits might start recovering in 2010/2011 (the year when the 50% tax rate kicks in) but partners’ 2010/11 interim tax liabilities, calculated based on the previous year’s results, will automatically be low.
This means that the increased 2010/11 tax liabilities will lead to significantly higher “balancing” tax payments being due on 31 January 2012. At present not that many firms plan their cashflow through to that date yet.
With the economy expected to be fragile for many months to come, almost all professional firms will need to pay close attention to their financial management even if they had not been forced to take draconian financial action during the recession.
Tax should rarely be the main driver but management should remember to consider the tax impact of any actions they are proposing and whether a more favourable tax outcome can be achieved with some care and attention at the execution stage for their proposals.
Louis Baker is head of the professional practices group at Horwath Clark Whitehill LLP
