Two steps forward for business and one step back

Yoyur shares or your rights?

The Chancellor insists that “Britain is open for business,” and his March 2013 Budget contained two measures that will be of interest to businesses large and small – even though you will have to wait for them to take effect. But now a measure in last year’s Budget has just started to bite.

One of the items of good news is the introduction of a unified rate of corporation tax. For the current financial year, the small profits rate is 20% and the main rate is 23%, while profits between £300,000 and £1.5 million suffer an effective marginal rate of 23.75%. Next year, the main rate will come down to 21% and the marginal rate will be 21.25%, before the single unified 20% rate applies from 1 April 2015. This is quite a drop from the top marginal rate of 32.75% that was charged just a few years ago.

The second bit of good news will particularly benefit smaller businesses. This is the new annual £2,000 employment allowance which, from April 2014, all businesses will be able to set off against their national insurance contributions (NICs) bill. At current rates, a business will be able to employ four workers on the minimum wage without any NICs cost.

The employment allowance could change the ‘salary versus dividend’ decision for owner-managed companies, which currently is heavily skewed in favour of dividends. It narrows the difference, but dividends still win out. Assuming an initial salary near the NICs threshold, in the region of £16,500 of additional profits could be withdrawn as salary, with employer NICs covered by the employment allowance.

At the moment, a basic rate taxpayer can save about £3,300 if they choose the dividend route. The difference comes down to around £2,000 if the employment allowance is taken into account, so a significant cost will still be attached to the salary option. The difference will completely vanish for those over state pension age who do not pay employee NICs.

The decision to incorporate will depend on the level of profits, and how those profits are withdrawn after incorporation. With a profit level of £40,000, a self-employed person would have a total tax and NICs bill of a little more than £9,000. The bill would currently be just over £10,000 if the business was incorporated, with £25,000 withdrawn as salary. The £2,000 employment allowance will therefore reverse the outcome.

And then comes the bad news. Of more immediate concern for entrepreneurs is the limit that now applies to setting off loss relief and getting a tax deduction for loan interest. The limit is set at the higher of £50,000 or 25% of income. It may be possible to restrict the impact of the limit on deductible losses by disclaiming capital allowances, and it is important to understand that any restricted loss can still be carried forward and relieved against future profits. 

But the limit will have more serious implications where it restricts the deduction of loan interest, because the tax benefit of any restricted interest will be permanently lost. This might be a continuing problem, and could mean that individual borrowers will need to restructure their finances as a matter of urgency. Please contact us if you think you may be affected.