Reducing your company’s corporation tax bill doesn’t always need to involve complex tax planning. There are also some simple things you could be doing to ensure your business isn’t paying more than its fair share of corporation tax in the UK. This article will explain how corporation tax works and provide you with 5 effective ways of reducing your corporation tax liability some of which you can get started with straight away and some may require professional advice.
How Much Is Corporation Tax?
Corporation tax is a tax on a company’s profits so how much corporation tax you pay depends entirely how much profit the company makes. The rate of corporation tax in the UK for the 2020-21 tax year is 19% so for every £100 of profit a company makes, HMRC will expect to receive £19 of corporation tax.
As corporation tax is applied to profits and not revenue any allowable expenses or allowances will help to reduce profit and the overall tax liability. Unfortunately HMRC do not consider all business expenses allowable. Any example of this is client entertaining which many companies incur but must be added back to profits when calculating the tax liability.
Keep Detailed Accounting Records
It’s surprising how many companies overpay corporation tax purely because they haven’t kept detailed records of their business expenditure. Where possible business transactions should be paid from the company bank account to create a clear paper trail however there are still many expenses that directors and employees pay with cash out of their own pocket then never reclaim from the company. Common examples include parking, subsistence and travel expenses to name just a few. In these situations it is essential that receipts are obtained to document the purchase.
The corporation tax rate in the UK is currently set at 19% for the 2020-21 tax year which effectively means these purchases are discounted by 19% when made through the company instead of by the individual. Expenses are usually deemed allowable providing they are “wholly and exclusively” for the purposes of the business however if detailed accounting records are not kept to support your claim then HMRC can automatically disallow them.
Invest In Your Business
When you invest in plant or machinery for your business the typical way to account for that new asset is to spread the cost of it over a number of years as its value depreciates. For tax purposes though your company can utilise the annual investment allowance (currently up to £1 million) which will allow you to deduct the full cost of the asset from profits in the year of purchase which can greatly reduce the corporation tax bill.
Although the annual investment allowance is currently £1 million it changes on a fairly regular basis and is often considerably lower than this. By thinking about the timing of large capital expenditure companies can greatly reduce their corporation tax bill.
Example:
Company A is forecasting pre tax profits of £1,000,000 for the year ending 31 December 2020. They are also considering buying some equipment at a cost of £500,000. Providing they purchase the equipment before 31 December 2020 they will be able to deduct the full cost by utilising the annual investment allowance, leaving them with £500,000 of taxable profits. Alternatively if they delay the purchase beyond the end of the year and the annual investment allowance is subsequently reduced below £500,000 they will not be able to deduct the full cost and instead will have to claim a writing down allowance spreading the cost of the equipment across a number of years.
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Pay The Directors A Salary
Sole director shareholders have the option of paying themselves via salary or dividends. Dividends are paid post corporation tax so do not obtain tax relief whereas directors salaries are an allowable expense and will reduce the overall corporation tax bill. It is important not to pay yourself too much via a salary otherwise the increased income tax and national insurance liability will outweigh any corporation tax saving made.
It is very common for sole director shareholders to pay themselves a small salary with the rest of their income being paid via dividends. This will ensure maximum tax efficiency and tax savings for both the company and the individual. The amount of salary a director should be paid will depend on their personal circumstances and other income. For this reason it is important that you speak to an accountant to confirm the optimal salary level.
Make Pension Contributions
A company can make pension contributions on behalf of its directors and it’s employees. As well as being a tax efficient way of saving for the individual the pension contributions are also allowable for tax purposes so every £100 contributed to a pension scheme will save £19 of corporation tax in the 2020-21 tax year for the company.
In the 2020-21 tax year an individual can contribute up to £40,000 to a private pension plan without incurring a pension savings tax charge. This includes contributions made by the individual and those made by the employer. Contributions in excess of this are subject to the pension savings tax charge which should be considered when making any contributions.
Research & Development Tax Relief
If your company works on innovative projects in science and technology then you could be entitled to additional tax relief. R&D Relief is often overlooked as many business owners assume it is just applicable to big tech and pharmaceutical companies but in reality companies spanning a wide range of industries are able to take advantage of this relief providing they are seeking to research or develop an advance in their field.
The amount of relief and how much corporation tax each company could save varies depending on the size of your company but most small and medium sized companies are able to claim an additional 130% of qualifying expenditure on top of the 100% already claimed in the accounts resulting in a significant saving.
Is There Anything Else I Can Do?
There are lots of other ways companies can reduce their corporation tax bill in 2020-21, from claiming additional allowances to paying tax bills early, the list goes on. Each company will have different opportunities available to it depending on a number of factors such as size and the industry they operate in. Its best to speak to a professional who will help you find those most suited to your circumstance.
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Adam Hill
Practice based accountant with over 10 years experience, specialising in SME's, Freelancers and Personal Tax. "I take pride in proactively recognising tax planning opportunities on behalf of clients to help them operate more efficiently."
