challenging question

– Hussain has owned the whole of the ordinary share capital of Arab ltd since 1 January 2011.
– Arab ltd pays Hussain a salary of £11,700 per annum and receive dividends of £20,250 on 31 July each year.
– Hussain does not intend to take any income from ‘Future Trading’ until the tax year 2017/18 at the earliest.
– Arab ltd is Hussain’s only source of income.

Hussain also mentioned that Arab ltd made some sort of ‘informal loan’ to him in 2011 of £21,000 to pay
for improvements to his house. I decided not to press him about this over the phone but I need to discuss
with him what he meant by ‘informal’ and whether or not the loan has been disclosed to HM Revenue and
Customs.
Please prepare the following schedules for me to use as a basis for our discussions. I will give Hussain
copies of schedules (a) and (b) but not schedule (c), as some of its contents may be sensitive.

(a) Calculations of the anticipated tax adjusted trading profit/loss of Arab ltd for its first three trading periods.

(b) Explanations, together with relevant supporting calculations, of the tax relief available in respect of the anticipated trading losses depending on whether the business is run as a sole trader or a limited company. When considering the use of a limited company, don’t forget that it could be owned by Hussain or by Arab ltd.

Please include a recommendation based on your figures but do not address any other issues regarding the differences between trading as a sole trader and as a company. I just want to focus on the losses for the moment.

(c) Explanatory notes of the tax implications of there being a loan from Arab ltd to Hussain and whether or not such a loan might affect our willingness to provide him with tax advice.

The letter referred to in Khalid’s email is set out below.

Dear Khalid

Future Trading

I am the managing director of Arab ltd, a company that manufactures waterskiing equipment. I am looking for a tax adviser to help me with my next business venture.

When I began the Arab ltd business in 2009 it was expected to make losses for the first year or so. I was advised not to form a company but to trade as a sole trader and to offset the losses against my income of earlier years. I followed that advice. I transferred the business to Arab ltd on 1 January 2011, once it had become profitable. Arab ltd has made taxable trading profits of approximately £120,000 each year since it was formed in 1995. It prepares accounts to 30 June each year.

For the past few months I have been researching the windsurfing market. I must have spent at least £6,000 travelling around the UK visiting retailers and windsurfing clubs (half of which was spent on buying people lunch). However, it was all worthwhile as on 1 January 2015 I intend to start a new business, ‘Future Trading’, manufacturing windsurfing equipment.

The budgeted results for the first three trading periods of the ‘Future Trading’ business are set out below:
£
6 months ending 30 June 2015 Trading loss (28,000)
Year ending 30 June 2016 Trading loss (13,000)
Year ending 30 June 2017 Trading profit 77,000

The figures above have been adjusted for tax purposes but take no account of the tax relief available in respect of the premises and equipment to be acquired in 2 January 2015.

I have negotiated the purchase of a small industrial unit for £140,000. The building was constructed for its current owner on 1 April 2007 at a cost of £90,000. It has been used for industrial purposes since that date with the exception of the period from 1 January 2009 to 31 December 2011 when it was used as a retail unit. The vendor prepares accounts to 31 March each year.

The business will also purchase equipment (machinery, computers, shelving etc) at a cost of £13,500. The equipment should last approximately three years so there will be no further acquisitions until the year ending 30 June 2018.

The next decision I need to make is whether the new business should trade as a company or as an unincorporated entity. It would make more sense commercially to form a company immediately but I would be willing to use the same approach as I used when establishing the Arab ltd business if this maximizes the relief obtained in respect of the trading losses. I want to obtain relief for the losses now; I do not want the losses carried forward for relief in the future unless there are no other options available.

Required:

Prepare the schedules requested by Hussain.

Marks are available for the three schedules as follows:

(a) Tax adjusted trading profit/loss of the new business (Future Trading) for its first three trading periods.

(b) The tax relief available in respect of the anticipated trading losses, together with supporting calculations and a recommended structure for the business.