Exam Technique and Question Style

1 Introduction

The TX-UK examining team have stated that they are attempting to “bridge the gap” between TX-UK and ATX-UK and have therefore introduced some “new style” questions to the exams that attempts to recognise this goal.

One style is the introduction of multi tax questions where a scenario that involves more than one tax is tested rather than the traditional single tax computational problems of the past. Where this happens, however, the requirements are very specific to each tax issue being tested and you will be left in no doubt as to what the examiner is asking you to do.

For example, if during their lifetime a taxpayer gifts an asset to another person, you may be required to explain and compute both the CGT and IHT implications that may arise out of that transfer.

A further change away from the traditional “prepare the tax computation” style has been the requirement to give planning advice to the taxpayer. Don’t worry, as again you will not be given a requirement such as – Advise (15 marks), but will be led through the question by individual requirements.

For example, in advising whether or not a trader would be better off running their business as an unincorporated trade or as an incorporated trade (i.e. through a company in which the individual would own all the shares and be an employee of the company), the question will ask you to compute the tax liabilities that will attach to each option based on a specific level of adjusted trading profit and profit extraction from that business. This will again involve a multi tax approach.

The introduction of both savings income and dividend income nil rate bands has made the question over the transferability of income producing assets from one spouse or civil partner to another a more interesting problem as compared to the main issue before this introduction of simply moving income producing assets from a higher rate taxpayer to a basic rate taxpayer or even from a basic or higher rate taxpayer to a spouse/civil partner who has not fully used their personal allowance.

2 Married Couples/Civil Partners

In dealing with income producing assets owned jointly by spouses or civil partners, there is often a tax advantage to be gained from transferring ownership of an income producing asset, such as a rental property, from a higher rate taxpayer to a spouse who was only a basic rate taxpayer, or even greater tax savings to be had when the transferee spouse was not using some or all of their personal allowance. This would allow income that would have been taxed at 40% to now be taxed at 20% or indeed not taxed at all if the income fell within the available personal allowance of the transferee spouse.

The transferor spouse could transfer the entire ownership of the asset to the transferee spouse such that all future income would be taxed on the transferee spouse, or could transfer any part interest in the asset to make it jointly owned which would mean that the income would then be split 50:50 (the default position for jointly owned assets of spouses).

In dealing with CGT and IHT, we have learned that the transfer of ownership of the asset will be achieved without any capital taxes implications. A transfer of a chargeable asset between spouses/civil partners will be a no gain no loss transfer for CGT purposes and will be an exempt transfer for IHT purposes.

We have also learned when dealing with CGT and spouses that assets would be transferred between them on a no gain no loss basis prior to sale to the outside world, in order to utilise the AEA of each spouse and to ensure that any taxable gains would then arise upon the basic rate taxpayer spouse rather than the higher rate taxpayer spouse to ensure that the lowest available tax rate would then apply to their taxable gains.

The introduction of nil rate bands for savings income and dividend income has also created opportunities for spouses to reduce their overall charge to income tax and may even give an advantage to transferring such income from a basic rate taxpayer spouse to a higher rate taxpayer spouse!

In terms of investment planning for taxpayers, their retirement is a key issue and a comfortable retirement will be influenced by what income producing assets are owned by the taxpayers and how that income will be taxed as seen above with savings and dividend income nil rate or starting rate bands, the use of ISAs and each spouse’s PA and basic rate band.

The other key issue is the provision of a pension and it is essential for this purpose that you understand the tax implications of making contributions into a pension scheme, either occupational or more often examined, a personal pension scheme.

3 Operating a business as an unincorporated trade or as a company (incorporated)

When an individual chooses to start their own business, they have a choice of business structure decision to make, choosing between operating the business as an unincorporated trade (a sole trader or a partnership) or through a company (where the individual owns all the shares in the company, the company owns the assets, and the individual is an employee of the company). this decision will have important tax consequences.

If a business is run as an unincorporated trade then the owner of the business will be assessed to Income Tax on the tax adjusted trading profit of the business NOT the amount of cash (drawings) they have chosen to take from that business. These tax rates being 20%, 40% and 45% depending on the level of profit. The profit will also be assessed to Class 4 NIC.

The Income Tax and Class 4 NIC will be collected through the self assessment system.

If the business is run as a company then the adjusted trading profit of the company will be subject to corporation tax at 19%, 25% or 25% with marginal relief. The individual will then only be chargeable to Income Tax on what they take out of the company, and profits are usually extracted as either salaries or dividends.

If the individual pays themselves a salary then the cost of the salary (including employers’ Class 1 NIC) will be an allowable deduction for the company in computing its trading profits and so will reduce TTP and the corporation tax liability. A dividend paid by a company however, is a distribution out of the after tax profits of the company and therefore achieves no corporation tax saving.

For the owner-manager of the company (i.e. the individual who owns all the shares of the company and is also an employee of that company), any salary payments must be made through the PAYE system with both Income Tax and employee’s Class 1 NIC being deducted at source and paid over to HMRC. Dividends will be subject to their own income tax rates with tax on dividends above the dividend income nil rate band being payable through the self assessment system .

We may have to consider therefore the tax implications of a taxpayer choosing to incorporate their business and run it as a company rather than an unincorporated trade and the subsequent decision for an owner manager of a company as to whether to extract the profits of a company as either a salary or dividend payment.

4 Multi tax scenarios

Another area to consider in questions that test all the taxes that may be relevant to a transaction or event rather than just asking for one specific tax that it is involved, for at the Advanced Taxation level most questions involve more than one tax.

We have already seen in this chapter examples of this, a simple example of income producing assets being transferred between spouses or civil partners, where although the main issue is income tax it is important to know that there are no capital taxes (CGT & IHT) implications.

A more challenging problem was the comparison of running a business as an unincorporated trader or through a limited company, where we have to deal with the Corporation Tax implications for a company and the personal tax issues for the individual involving therefore both Income Tax and if necessary NIC.

When advising a client on the tax implications of running a business, then in addition to the tax points made above, the trader would also want advice on VAT, initially when the business must register for VAT and whether it should choose to do so earlier rather than later. This may then lead to a discussion of the various accounting schemes that may be available and advisable to be used such as cash, annual or flat rate.

If a taxpayer is to start their own business then he/she may want advice on the tax implications of buying and expensing a car or cars through the business either for themselves and/or employees and the different outcomes dependent upon the choice of business medium – unincorporated or incorporated.

When a car is purchased through the business what happens to the VAT incurred thereon along with the VAT suffered on the running expenses? What capital allowances are available on the purchase cost and is tax relief available on the running expenses of the car? If a car is made available to an employee what is the assessable benefit to be included in their employment income assessment and will there be any Class 1A NIC to pay by the employer in relation to such benefits?

We noted above the tax implications of spouses or civil partners transferring assets to one another and saw that in terms of the capital taxes there would be no impact as for CGT purposes such transfers are on a no gain no loss basis and for IHT purposes the transfers are exempt. A more interesting problem worthy of an examination question would be, what tax implications arise when assets are transferred to your children, usually by gift.