The Office of Tax Simplification (OTS) have published two discussion papers on small company tax reform, ‘Lookthrough taxation’ and ‘Sole Enterprise with Protected Assets'.
The papers follow the OTS’ March 2016 Small Company Taxation Review.
This new way of taxing small companies, it creates a model whereby the company would be taxed transparently: all the company’s profits and gains would be allocated to the proprietors and taxed under income and capital gains tax rules, so that:
- Shareholders are charged income tax and class 4 NIC on profits.
- Distributions suffer no additional tax.
- The corporate structure would be ignored for tax purposes: no corporation tax would be payable.
- The company would still exist for general law purposes and VAT.
The OTS had previously suggested that the lookthrough system could be applied to companies that:
- Do not intend to increase in size.
- Are effectively one-person businesses.
- Distribute all or almost all of their profits.
- Have few assets or investment needs.
In their discussion document the OTS has identified five key issues:
- Who would it apply to: can affected taxpayers be easily defined?
- How would it be applied: how would profits be allocated to proprietors?
- What would be the tax consequences: how would tax be collected?
- Would this be an optional, default or compulsory system?
- Would this deliver simplification?
Specific issues and areas for discussion identified by the OTS include:
- How would salaries be dealt with? Would profits be allocated before or after salaries?
- How would preference dividends be dealt with?
- How would benefits-in-kind be taxed?
- How would capital gains be allocated and would any corporate capital gains tax reliefs apply?
- How would trading and capital losses be allocated and offset?
- Could lookthrough and cash accounting be combined?
The consultation questions for Lookthrough taxation are below.
Sole Enterprise with Protected Assets (SEPA)
This would be a way of providing personal asset protection to business owners without the need to incorporate.
The OTS is proposing that only the owner’s interest in their primary residence would be protected rather than any wider class of assets.
The OTS envisages that all individuals with a National Insurance number who have the right to work in the UK could apply for SEPA status, subject to restrictions similar to beckoning a director, such as being bankrupt or subject to an IVA.
Other features proposed by the OTS include:
- Individuals would not have to inform existing clients that they intend to become a SEPA.
- Once trading as a SEPA all correspondence etc. would have to state that it is a SEPA and quote the registered number.
- SEPA status attaches to an individual so it cannot be jointly held, passed on to heirs or sold.
- A form of disincorporation relief should be available for companies who want to move into a SEPA model.
- Creditors could still be entitled to ask for a loan to be secured against a residence.
- SEPA individuals would still be liable personally if found guilty of fraud or other serious failures.
The consultation questions for the SEPA are below.
The OTS plan to publish their conclusions in October 2016 and are asking for responses by 12 September if possible and by 30 September at the very latest.
Consultation questions: Lookthrough taxation
The OTS think there are five key issues in considering lookthrough:
- Who would lookthrough apply to (or be available for); is it possible to define easily the affected taxpayers?
- How would it apply: how would profits be allocated to proprietors?
- What tax consequences ensue: how would the tax be collected?
- Would this be an optional, default or compulsory system?
- Overall, would this deliver simplification?
The OTS are aware that lookthrough is seen by some as a route that might improve overall compliance and in particular assist or obviate the need for IR35. However IR35 is legislation that is concerned with circumstances where a company’s income is to be taxed as the proprietor’s employment income. This is broadly where the proprietor would be taxed as an employee of their client were they engaged directly by the client. Lookthrough would not change this.
Question 1: Do you agree with the five key issues above? If not how would you change or add to them?
Question 2: Do you agree with the OTS’s conclusion from the small company taxation review of the characteristics of companies that could materially benefit from the simplification offered by lookthrough?
Question 3: Do you think lookthrough would have an impact on growth companies if applied to them? If so, how?
Question 4: Leaving aside your views on whether lookthrough is a good or a bad idea, should the target group of companies be defined according to a turnover limit like the cash accounting limit? Or are there other methods that would better target a group of potential lookthrough companies? Do you think lookthrough should have a limit at all?
Question 5: If allocation is made, should salaries be added back or left to stand?
Question 6: Are there other significant ‘other issues’ that need to be considered beyond the five noted above?
Question 7: What other types of income do we need to consider for lookthrough?
Question 8: Do you agree with the outline treatments above or do you have any suggestions on how they should be treated differently?
Question 9: Do you think lookthrough, if it is introduced, should be optional/default or compulsory? Do you have any further points for your preferred route beyond those mentioned above?
Question 10: Would cash accounting be a useful simplification for lookthrough companies?
Question 11: Would cash accounting be useful to companies even if they still had to produce a corporation tax return?
Question 12: What do YOU think? Can lookthrough deliver simplification?
Consultation questions: the SEPA model
Q1. Do you agree with this broad outline of the SEPA model? In particular do you agree with protection being only in terms of business debt? If not, what would be the most practical approach?
Q2. Do you agree that only the primary residence should be protected?
Q3. We have not proposed that we cap the value of the protected primary residence. Do you think this would be necessary to prevent risk of abuse? If so what would be a suitable cap?
Q4. Are these qualifications and restrictions reasonable? Or would they damage someone’s ability to get back into business after having problems? Are there any other individuals who should or should not be allowed to apply for SEPA status?
Q5. Is there any other information that should be required for SEPA registration?
Q6. Are there any other formalities and procedures that would have to be considered?
Q7. Are there any other negative impacts that we need to consider?
Q8.What is your evaluation of the SEPA concept? Will it be a useful addition to the UK business landscape and encourage enterprise?
OTS discussion paper: Lookthrough taxation
OTS discussion paper: Sole Enterprise with Protected Assets
For further developments see Finance Act and Bill rolling planner 2016/17.