Category Archives: Accounting

Employment and Self-Employment

A quick look into the complicated and increasingly fuzzy differences between employment and self-employment.

The tax position

Overall, the self-employed enjoy tax advantages compared to their employed colleagues.

  1. A self-employed worker pays lower rates of national insurance (at the time of writing: 9%, or 2% on earnings above £46,350).
  2. There is no benefit in kind tax on private use of business vehicles.
  3. Expenses which are wholly and exclusively for the purposes of business can be claimed as deductions against taxable profits, while employee expenses adds a further condition before they can be claimed – expenses must be wholly, exclusively and necessarily incurred in the course of their employment.
  4. Self-employed workers also have the cashflow advantage of paying tax due on their earnings in the tax year ending on 5 April in two instalments at the end of the succeeding July and January. Employees have tax deducted from their earnings when it is paid.
  5. Self-employed workers often have the option to direct the profits of their business to limited companies, which can have significant tax benefits.
  6. Self-employed workers can pay salaries to family members, reducing their own taxable profits, and utilising the family member’s tax-free personal allowance. The salary must be paid on a genuine commercial basis for actual services provided and must actually be paid. Employees would have no such flexibility.

However, the self-employed must go through the bureaucracy of completing a self-assessment tax return. In general, and with many exceptions, employees earning less than £100,000 do not need to complete a return.

What about the employer?

Hiring a self-employed worker rather than an employee has advantages to the employer too: –

  1. Employers pay employer’s national insurance contributions (currently 13.8% of gross earnings) and pension contributions (currently 1%) for most employees
  2. In theory, self-employed contractors have little or no employment rights in matters such as sick pay, paid holiday leave and parental or maternity pay.

Recent supreme court judgements concerning section 230 of the Employment Rights Act 1996 seems to grant protected “worker” status to the self-employed where “an individual undertakes to do or perform personally any work or services” including whistle-blower and unfair dismissal protections. This creates a fuzziness between

Commercial risk

Self-employed workers (other than those who trade through limited companies) are in business on their own account. The law does not distinguish between a creditor’s claims on their private and personal assets.

Self-employed contractors’ employment rights are curtailed as set out above.

However, employees also face significant risks. They may lawfully be made redundant with only a small entitlement to statutory redundancy pay if their employer’s business requires it.

Is self-employment a choice?

The courts have been consistently clear that merely signing a contract that states that an employee is self-employed does not automatically render that employee self-employed if the substantive relationship is one of employment.  The following factors are relevant to determining whether a relationship constitutes employment or self-employment

  1. Mutuality of obligation. This refers to the obligation of an employer to provide work and pay for it, and the corresponding obligation of the employee to personally do the work. However, the use of zero hour contracts, whose classification as employment has never been subject to doubt, does challenge this notion.
  2. A line managed worker carrying out a regimented task – particularly one carried out simultaneously by other workers such as a warehouse packer – is unlikely to be classified as self-employed. Skilled employees such as software developers enjoying substantial independence in carrying out their jobs are more likely to be construed as self-employed.
  3. Set hours and a set place of work are associated with employment.
  4. The right of substitution rather than a requirement of a worker personally carrying out work is a valuable indication of employment. HMRC have recently lost a case in which they sought to assert an employment relationship predicated mainly on a lack of right of substitution.
  5. Typical commercial arrangements such as the worker using their own tools, having multiple clients, and especially no one predominant clients, marketing their services widely, or obtaining their own insurance are indicators of self-employment.

Despite decades of different cases, exactly how these different factors are to be weighted is unclear.  Recently a number of examples have arisen of workers being granted employment rights while taxed as self-employed, which makes for a very confusing position for businesses looking to comply with the law.

Limited companies and LLPs

It used to be the case that using specific legal intermediaries – such as LLPs or companies – would make what would otherwise be an employment relationship into a contractor or self-employed relationship.

Members of LLPs are now taxed as employees unless they substantially participate in the risks, decision making, and rewards of the LLP’s trade.

Companies which provide services on what would otherwise be a contract of employment are required to pay tax as though they were an employee under the “IR35” rules. Exactly which types of relationship are caught under these rules is a complex and still evolving area of law.

 


Cloud accountancy

In the last decade, the world around us has changed immeasurably. Almost 25% of non-food retail items are now purchased online. While once we used to write cheques, we now pay for items with a touch of a smart watch, or a swipe on a smart phone. Entire libraries can now be stored on devices which fit into a pocket. The way we communicate with each other has changed, with the increasing ubiquity of social media giving individuals the ability to reach out to thousands. Business administration has also changed in this period, and at the heart of this change has been cloud accounting apps.

The main benefit brought about by cloud accounting is instant collaboration. A sales team can raise invoices; employees can use a telephone app to take pictures of their travel expenses and include these on expense claims for approval by managers; a credit controller can chase late payers; a business owner can consult with an accountant on the month’s figures – all working off a single, unified data set. Previous generations of software required files to be emailed or shared on USB sticks and CD drives – often the data was obsolete before it arrived, and any adjustments made by one user could not readily be integrated with another.

In addition the new generation of apps take advantage of Open Banking to automatically pull in data on bank transactions into the accounting system. This allows businesses to track which customers have paid their invoices as the cash is received, and to capture expenditure data promptly and fully. A whole “ecosystem” of specialist add on apps and systems have built up which extend upon data on accountancy apps has sprung up, offering, for example, payroll and HR management, timesheets, customer relationship management, inventory management and industry specific features. Many systems will store images and documents, enabling a business to become “paperless”.

Yet, these new systems are not without their drawbacks. Businesses now keep a remarkable amount of information – some of it personal information pertaining to employees and staff on one online system on trust. Businesses need to be responsible with how they safeguard and use this data, and business users would be well advised to thoroughly interrogate these firms’ credentials before entrusting them with it. Under the new GDPR regulations, cloud accountancy apps are likely to be “sub-processors” and there are specific requirements arising from this. The app’s financial security is also important to consider. Some of the cloud accountancy companies and add-ons, despite having glossy and beautiful websites, are relatively small and unestablished. If a cloud accounting company ceased trading, it would mean that the entire business records for all their customers would cease to be available, which could be utterly crippling. Many of these products allow you to take snapshots or back-ups of data. I strongly recommend you keep control.

Notwithstanding all this, I believe that cloud accounting will become increasingly ubiquitous over the next decade. We will start to see a lot of “artificial intelligence” automating support and data entry business tasks, and enabling the humans to focus on wider executive and strategic issues, but the output of these algorithms must be adequately supervised to prevent them going awry. The fundamentals of business – the need to understand the workings of all areas of your business – will not. Innovations offer fantastic opportunities for efficiency and scale, but ultimately the business is dependent on the enthusiasm and talent of the people who work there.


Dormant companies

Category : Accounting

What are dormant companies?

A dormant company is a company which does not carry out a trade. To qualify as dormant, a company must either be non trading in its first year of existence, or otherwise be non trading for two consecutive years.

What difference does being a dormant company make?

Dormant companies can file simplified single page accounts, and are exempt from audit even if they are part of a group which requires auditing.

What level of activity constitutes trade?

It’s not clear. A maximalist interpretation would find that the company trades if it incurs expenses, even if those expenses are settled by the shareholders. As every company pays an annual £13 filing fee, that would preclude any company from being dormant – so this interpretation is clearly not accepted in practice.

A more reasonable interpretation would find that a company is dormant if:-

  • All its expenses were paid by the shareholders. Even a minimal level of expenditure settled from the Company’s own resources – for example bank charges – would probably taint the dormant status.
  • It did not engage in trading activity (for example, advertising or promotion as well as making sales or incurring expenses). There will be edge cases where judgement needs to be applied.
  • Expenses paid by shareholders were purely of a recurring type such as filing fees and accountant fees necessary to maintain the company in its existence.
  • Often, but not necessarily, dormant companies have no equity other than share capital.

Note that the definition of a trading company for accounting purposes differs from that used for tax purposes.

Can a dormant company hold assets which do not generate income

Companies holding assets such as investment properties seem not to be regarded by Companies House as dormant . The online form that Companies House provide to file dormant accounts allows for only two types of asset in a dormant company – cash, or unpaid share capital owned by the shareholders.  Ultimately it is however a matter of judgement. If the investment property earns rent, clearly the company is not dormant.


FRS105 Micro-entity Accounts

Category : Accounting

Do you like to understand the detail behind your annual accounts? At Somers Baker Prince Kurz we like to take the time to explain what we do (we’re accountants after all) to our clients, so that the accounts are meaningful and useful documents rather than an administrative drudge.

The UK government has recently introduced a relaxed accounting standard for “micro entities”. This allows smaller business to produce shorter, more readable accounts without pages of complicated accounting policies and detailed notes on small points.

What is a micro-entity

The three main criteria are: –

  1. Turnover of no more than £632,000
  2. Gross assets (i.e. – without subtracting any liabilities) of no more than £316,000
  3. No more than 10 employees

Two of these three criteria need to be met for two consecutive years (for a newly incorporated company it suffices to meet the criteria in its first year). There are certain companies which cannot qualify as micro-entities regardless of their size: –

  • Members of a group preparing group accounts.
  • Investment undertakings
  • Financial holdings undertakings
  • Credit institutions
  • Insurance undertakings
  • Charities

What is FRS 105?

FRS 105 is the Financial Reporting Standard applicable to the Micro-entities Regime, issued by the Financial Reporting Council (FRC).

How do micro-entity accounts differ from other accounts?

There are two broad categories of difference between micro-entity accounts and other small company accounts:

Valuation differences

The starting point for assets valuation is the original cost , and never at their current market value. This is particularly significant for companies with holdings of publicly traded shares and investment properties.

Where the tax valuation (“tax base”) and the accounts valuation (“net book value”) of an asset differ, there is no need to calculate the “deferred tax” effect of the difference.

For example, if some publicly traded shares purchased by the company have increased in value between the purchase date and the financial year end, there is no need to account for either the increase in value of the shares or the tax that would be payable had the gain in value of the shares been crystallised.

Disclosure differences

The format of micro-entity accounts is quite rigidly set out in law (Section C of Part 1 of Schedule 1 to the Small Companies Regulations) . There are no detailed notes of various items – for example splitting current assets between trade receivables, cash held, and other debtors. The only notes required are for matters specifically required under the Companies Act 2006: –

  • Cash advances, credits or guarantees made by the company in favour of the directors (where the director has lent money to the company, this need not be disclosed). Detailed information must be given on the the
    • Amount.
    • Interest rate.
    • Other main terms of the transaction.
    • Amounts written off, waived or repaid.
  • Other guarantees, contingencies or potential liabilities that the company may be exposed to.

FRS 105 accounts do include a profit and loss (or income) statement, but this can be removed (“filleted”) from the accounts filed publicly at Companies House.

What are the advantages of FRS 105?

FRS 105 accounts are less technical  and easier to prepare and understand.

What other accounting standards apply to UK Companies

Use of FRS 105 for qualifying companies, LLPs, partnerships and sole traders is optional but not compulsory. These entities can optionally choose to adopt FRS 102 section 1A.

  • The accounting standard applicable for small companies is FRS 102 section 1A.
  • Medium or large private companies and groups apply full FRS 102.
  • Publicly trading groups report using “EU adopted IFRS”
  • The subsidiaries of these groups can use FRS 101 or full EU adopted IFRS.

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