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More profit more tax

My company spent £1,000 on a pc and £20,000 on our website.  Our other cost was wages and our total costs this year were £52,000. Turnover was £52,100 so we just about made £100 for the year. But our accounts have just been done and they show a profit of about £3,000. That shocked us. The accountant says that some of our costs have been capitalized so they are in the balance sheet and only some of the cost is really being counted against our profit. The corporation tax due on the alleged profit is more than the profit we really made! How can this be right?

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29th Nov 2012 21:25

ask your accountant

to explain what Annual Investment Allowance (AIA) claim he is making for the fixed assets which have been capitalised. If the answer is none (or what is an Annual investment Allowance) start looking for another accountant.

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30th Nov 2012 07:48

Ask your accountant again

There are all sorts of reasons why your estimate doesn't agree with your accountant's. Do you have any stock or work in progress at year end? Are any of your expenses relating to a future year? Have you paid rent in advance?

Your accountant should be able to explain to you how and why the figures have been arrived at.

 

John Perry

www.centralbusiness.co.uk

 

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By BKD
30th Nov 2012 08:03

Agree with John

It looks as though capital allowances may have been claimed in full. As well as asking the accountant to explain why the costs of some capital assets are spread over a number of years, ask him  to explain why some expenditure simply is not allowable for tax purposes - as well as the possible adjustments suggested by John.

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30th Nov 2012 08:14

It can be confusing...

The profit you make can't be derived by simply adding up receipts and knocking off payments. As jp above, some costs (or receipts for that matter) may relate to a later period (e.g. rent paid in advance) or may give a benefit to the business over a number of periods (e.g. a computer). So, in broad terms, we accountants match* the costs to the relevant periods.

Things get more complicated because the rules for when and whether costs are recognised for tax purposes are different again; particularly with Fixed assets.

So it is quite probable that your profit or loss is not the same as you cash movement in the period and that the tax profit is different again!

As advised, if it's not clear, ask your accountant to go through it with you.

 

* For my fellows, please can we avoid any arguments about the nuances of matching and FRS's :-)

 

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By DMGbus
30th Nov 2012 09:00

"Wages" as an expense for tax purposes

I find that clients / taxpayers who do not have a full understanding (maybe not explained properly to them by their accountants) sometimes get confused with the tax deductability of their "wages".

"Wages" that are Directors Remuneration are deductible from a Ltd Co profits and reduce Corporation Tax.

Not so in a partnership or sole trader ("Wages" drawn by the proprietors are "Drawings" charged to Capital Account)..

"Wages" that are drawings by shareholders/directors as dividends are NOT deducted from profits for Corporation Tax purposes - they are an after-tax appropriation / disposal of taxed profits.

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30th Nov 2012 09:03

Good point

DMGbus - my first thought was AIA (or rather the lack of it) but now you mention it the dividends could be the real issue here.

 

WS.

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30th Nov 2012 09:44

Company makes profit shock !

I thought you would be pleased.

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30th Nov 2012 09:55

Thank you for the answers. In answer to the questions it is a very small and simple business. Our costs were as I said, £1,000 on a PC, and £20,000 on website programming. Our other costs were £30,000 on salary including NI, £600 in rent paid 1 month in advance, £200 on accountants fees, and £100 on postage and minor things. In all we spent almost exactly £52,000. We invoiced, and received £52,100 for services we provided to clients. No other invoices were issued and we had no bad debts. We know we made about £100 profit for the year, and even our bank balance at the end of the year was £98 (there was about £2 in bank charges during the year).

We did ask the accountant, and he said we made £3,000 profit because our website costs have been capitalized and go in the balance sheet as an asset and only some of the £20,000 we spent on the website is counted as a cost in the profit and loss account. So our £100 profit has magically become £3,000 and we have to pay corporation tax on this. The accountant says that this is the correct and accepted treatment for this type of cost. To us it seems like a distortion of the reality.

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Problem

PeterLev wrote:

£200 on accountants fees

 

Now I see the problem....

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30th Nov 2012 12:08

YEP

MissAccounting wrote:

PeterLev wrote:

£200 on accountants fees

 

Now I see the problem....

Funny as F***,  Would love to see the full cost of that advice....can you update us with the punchline enquiry result?

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By BKD
30th Nov 2012 10:47

Reality

PeterLev wrote:

To us it seems like a distortion of the reality.

Not at all. The benefits derived from the website, and the costs of creating it, are likely to be felt over a number of years. The same with the computer or any other enduring asset. In very simple terms, therefore, you need to spread the cost over the period of benefit (what accountants often refer to as the 'economic life' of the asset). It would be a distortion of the reality to recognise the full cost of the asset in one year (although the legislation does allow one to claim that full cost, currently up to £25k, in year one for tax purposes).

But rather than risk yourself getting confused by various answers here, the best thing would be for you to sit down with your accountant and have him fully explain not jsut what he has done but the reasons behind what he has done.

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Clients are only pleased with a profit ...

when they need a loan or mortgage. At all other times it is something to be avoided as it brings a tax bill (which is a bad thing).

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30th Nov 2012 10:24

Next year

If you repeat the pattern of activity next year, the profit you pay tax on will be less than the profit you calculate by your method, as some of the website costs will be claimable in year 2. Your accountant should be able to demonstrate this to you. It is most likely a timing issue (although there are some special rules about websites that may also come into play).

Did you ask an accountant for advise on tax implications when you were doing the business plan? It is what they are best at, but as usual it comes at a price...

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30th Nov 2012 11:05

is there a lack of trust?

The fact that you came on here with questions, rather than speaking to your accountant, is worrying. I think you have hog tied your accountant if you are unwilling to pay a decent fee and he/she isn't going to welcome a long meeting on top of doing limited company accounts for just £200.

Be prepared to pay for good advice. It can actually save you money.

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30th Nov 2012 11:26

I can't argue with what is or is not correct in accounting terms, but I would personally take issue with the rational. Bear in mind I am approaching this as a businessman not an accountant. It may be true that "benefits derived from the website, and the costs of creating it, are likely to be felt over a number of years". Yes, possibly there may be benefits, but the sole purpose of the website is to generate cash for the business. If it does that, this will be reflected in sales and resulting profits. There is no need - from a business perspective - to try to create profit by means of counting the cost as not being a cost. The website is worthless (or close to) as an actual item. No-one will buy the code off me tomorrow. It's money spent, a cost. If the website has to be given a value, can it not go in the balance sheet as an asset, but the cost of creating this asset be recognized in full as a cost? The point is there is no way we made £3,000 profit, but we find our corporation tax calculated as £600, when we know our real profit was just £100. I see there is a difference between an accounting profit and a cash profit, but in business the cash is what matters.

Our accounting fee is only £200 but there are only about 30 transactions for the whole year so it really quite a small task.

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By Penfold
30th Nov 2012 11:37

So first answer received was correct

Even if website capitalised you can still claim 100% of the cost - that's what happens when you pay peanuts.

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30th Nov 2012 11:45

downside

Penfold wrote:

Even if website capitalised you can still claim 100% of the cost - that's what happens when you pay peanuts.

 

If I think the website code itself isn't worth the £20,000 I spent on it in material terms, could I write it off as nil value in the balance sheet, and just a £20,000 expense to the business. It seems simple, and to be a truer reflection of the reality. What is the downside of that?

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By BKD
30th Nov 2012 11:54

No, you couldn't

PeterLev wrote:

Penfold wrote:

Even if website capitalised you can still claim 100% of the cost - that's what happens when you pay peanuts.

 

If I think the website code itself isn't worth the £20,000 I spent on it in material terms, could I write it off as nil value in the balance sheet, and just a £20,000 expense to the business. It seems simple, and to be a truer reflection of the reality. What is the downside of that?

You can take as much issue as you want with the rationale, but it is unlikely to get you very far. You say you are approaching this as a businessman, not as an accountant, which I can appreciate. But that being the case, you should concentrate on generating business profits and let the accountant get on with his job. If you're not prepared to accept what is correct, in both accounting and tax terms, then take it up with HM Government.

It doesn't matter that the cost of the asset may be of no value to anyone else. The fact is that so long as you expect the asset to be of benefit to you over a number of years (presumably you don't expect sales generated from the website to dry up exactly at the end of the accounting period?) then the correct treatment is to recognise the cost of the asset over that period of benefit. You could capitalise the asset and depreciate it fully in one year. I don't think that would be appropriate in accounting terms but in any event would not change the tax treatment.

And be grateful that the free advice that I have given you would have cost you, in terms of my time, in excess of £200 had you been my client.

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30th Nov 2012 13:13

Surely it does matter

 

 

 

Penfold wrote:

 

 

 

 

It doesn't matter that the cost of the asset may be of no value to anyone else. The fact is that so long as you expect the asset to be of benefit to you over a number of years (presumably you don't expect sales generated from the website to dry up exactly at the end of the accounting period?) then the correct treatment is to recognise the cost of the asset over that period of benefit. 

 

 

Surely it does matter the asset does not have the value in the real world being attributed to it in the accounts. It may be that all that matters from an accounting point of view is that the rules are followed, I am suggesting the rules appear flawed. The end result is a vastly over-valued asset in the balance sheet and inflated profits. 

OK, so the asset is expected to be of benefit over a number of years. Maybe. Again I would say it's the reality that matters not the expectation. If the asset does indeed prove capable of delivering any benefit in future years, then that benefit will be shown in turnover and profit in future years. Why inflate asset values and profits before the profits have been proven.

I am not taking issue with whether the correct rules have been applied, I am just amazed that the rules distort the profits and asset values of the business. It's like saying if I bought a coat for £200 last January I'm going to get the benefit of that coat for the next 5 years. So now I say I've only spent £40 and have a coat worth £160. No, I've spent £200 and have a coat with no material cash value. I know this sounds flippant but it really sounds like this is the logic being applied to business accounts.

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30th Nov 2012 13:29

Sorry it does matter

PeterLev wrote:

Surely it does matter the asset does not have the value in the real world being attributed to it in the accounts. It may be that all that matters from an accounting point of view is that the rules are followed, I am suggesting the rules appear flawed. The end result is a vastly over-valued asset in the balance sheet and inflated profits. 

OK, so the asset is expected to be of benefit over a number of years. Maybe. Again I would say it's the reality that matters not the expectation. If the asset does indeed prove capable of delivering any benefit in future years, then that benefit will be shown in turnover and profit in future years. Why inflate asset values and profits before the profits have been proven.

I am not taking issue with whether the correct rules have been applied, I am just amazed that the rules distort the profits and asset values of the business. It's like saying if I bought a coat for £200 last January I'm going to get the benefit of that coat for the next 5 years. So now I say I've only spent £40 and have a coat worth £160. No, I've spent £200 and have a coat with no material cash value. I know this sounds flippant but it really sounds like this is the logic being applied to business accounts.

These rules do make sense if you understand them, unfortunately you have a fundamental lack of understanding.

Your balance sheet is not a valuation and the accounting treatment is designed to spread the cost of an item over its useful life as it is used up in the business.

In the same way as any other expense or asset.

Your accounts also need to apply generally accepted accounting practice (GAAP) where applicable if you divert from this treatment then you better have a very good reason in the interests of showing a true and fair view. Not usually worth the effort at micro company level.

 

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By BKD
01st Dec 2012 10:25

To keep the pot boiling

PeterLev wrote:

 It's like saying if I bought a coat for £200 last January I'm going to get the benefit of that coat for the next 5 years. So now I say I've only spent £40 and have a coat worth £160. No, I've spent £200 and have a coat with no material cash value. I know this sounds flippant but it really sounds like this is the logic being applied to business accounts.

Yes it is indeed the logic applied (correctly and sensibly) to business accounts. Your analogy is more appropriate than I think you realise. Say you have a choice - you can either buy a cheap coat costing £40 but it will last you only 12 months so every year you have to buy a new one. So the annual cost in your 'personal profit and loss account' is £40. Or you could splash out £200 on a coat that will last you 5 years. It doesn't take any specialist accountancy or business acumen, merely a modicum of common sense, to realise that with the more expensive coat you're obtaining exactly the same annual benefit from the garment. Again it requires only common sense to understand that one should match the benefit with the cost. So in the latter case, yes you would capitalise the cost of the coat on your 'personal balance sheet' and release £40 to the profit and loss account each year.

Sure, you may have 'spent' £200 on the coat, but it is a fallacy to say that you have immediately 'lost' £200 - you still have an asset that is of value to you, even if it would fetch only £1 in a car boot sale. Now, if the coat were to fall apart after only a year, or it no longer fitted, then you would have to write off the full cost of the asset. But that would be a consequence of events subsequent to purchase and would not affect the original treatment of the expense.

 

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01st Dec 2012 21:55

Cash ultimately matters most

BKD wrote:

 

 

Sure, you may have 'spent' £200 on the coat, but it is a fallacy to say that you have immediately 'lost' £200 - you still have an asset that is of value to you, even if it would fetch only £1 in a car boot sale. 

 

No it's not worth £200 to me unless I can get £200 for it. Once I can no longer return it to the shop, it's only worth what someone will pay for it if I want to sell it. If I need to pay my bills and need cash, showing the bank manager the coat ain't going to help.

 

However I see (and accept) that there is a difference between accounting principles (and what HMRC accept) and the reality of the cash generating profitability and realizable asset values of business. I don't have any problem accepting this contrary to what some posts on here imply - but I find it interesting that most posting on here cannot see that there is a difference and that this difference has real implications and is equally important to recognize. Most posts infer it is stupid and I am an idiot to put such emphasis on cash and cash flow, and cash profitability as opposed to paper profitability in my business. I can only assume most of those replying have never run businesses themselves. The level of defensiveness and insults because a non-accountant dares to question the emphasis on theoretical cash over actual cash has been an eye-opener.

That said, BDK, and others that have replied without slinging insults, thank you for trying to explain the logic that underpins the theory.

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30th Nov 2012 11:36

Small task?

£200 is very very cheap - even with just 30 transactions. £200 won't be enough to cover the cost of decent advice & guidance.

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30th Nov 2012 11:44

twitter

very very very cheap

Wouldn't even do a tax return for that

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30th Nov 2012 12:05

Use of AIA

Is there any reason the accountant could not claim the capitalised element of the website as AIA so reducing the tax payable this year to the same as if it was all expensed?

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By BKD
30th Nov 2012 13:13

Timing

nautical wrote:

Is there any reason the accountant could not claim the capitalised element of the website as AIA so reducing the tax payable this year to the same as if it was all expensed?

Of course there isn't, which makes the capital v revenue argument somewhat academic when smallish amounts are involved. But that will not help the OP understand that accounts profits and tax profits are rarely the same. And forgetting about tax for a second, that accounts profits are rarely the same as net cash in/out. I'm afraid that I tend to agree with others here - £200 is a woefully inadequate fee, and does leave one wondering about the quality of service/advice given - VP gone wrong?   ;¬)

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30th Nov 2012 12:35

@peter...

you may take issue with the rational....but they ain't the rules....the taxable profit of a business is often different to the accounting profit....because due to the rules that are applied there are a variety of adjustments made. 

 

I have sympathy regarding the fact that maybe things haven't been explained well by your agent (if he has made the correct adjustments) but i find it a little odd that you take such issue as a 'businessman' to show that you have made little money from your business.  Perhaps you should take this time to relfect on how you can increase your profits.....

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30th Nov 2012 13:30

inflated figures means incorrect figures

justsotax wrote:

you may take issue with the rational....but they ain't the rules....the taxable profit of a business is often different to the accounting profit....because due to the rules that are applied there are a variety of adjustments made. 

but i find it a little odd that you take such issue as a 'businessman' to show that you have made little money from your business.  Perhaps you should take this time to relfect on how you can increase your profits.....

It's not odd that someone in business is taking issue to show that only a little money was made. I do not need to reflect on increasing profits, the position outlined was satisfactory for a first year. A businessman knows that the cash position is what really matters, so if I know costs, I know income, the real profit was the difference. To produce £3,000 profit out of thin air on the basis that we spend £20,000 to create something strikes me as theory and rules triumphing over facts. I am just amazed everyone seems to be 'rules is rules' about this, and doesn't seem to be willing to see that the result is inflated profits and inflated asset values. Whatever happened to the 'true and fair view' - and why isn't anyone from the accounting fraternity here willing to acknowledge that, as this rule stands, if profits are created and asset values inflated by this method, then we may debate whether the result is fair, but it is definitely not true, . 

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By BKD
30th Nov 2012 14:24

Someone needs some basic financial training

PeterLev wrote:

A businessman knows that the cash position is what really matters, so if I know costs, I know income, the real profit was the difference.

Anyone knows that a business will struggle to operate without cash. We can agree on that. But a profit and loss account is not designed to give you the cash position. If you know how much income you've received and you know how much cash you've spent, then you know how much cash you have got left - but that is unlikely to be the same as profit. Until you grasp that, you can rant and wail all you want.

In order to show a true and fair view, accounts need to match the income for the period with the costs incurred in generating that income. So if an asset is expected to contribute to the business for 5 years, then it should be capitalised and the cost released to the profit and loss account over those 5 years. That gives a true, and a fair, view of the performance of the business. It's not about applying rules, it's about a basic understanding of how to report that performance. And again, until you grasp that, ranting and wailing about the perceived unfairness of it all will get you nowhere.

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By DMGbus
30th Nov 2012 13:22

Cheap advice = expensive taxes (NIC in this case I have in mind)

When it is said that other costs included £30,000 salaries including NI I take this to mean that the widely practised "low salary = no NI costs" option was NOT advised or taken up.

Looks like potentially many £ '000's of avoidable NIC costs incurred here!

I know that it is difficult to implement a dividend strategy in the first year of trading but with forethought and willingness it most certainly can be implemented (oops would involve the cost of drawing up management accounts and costs, it appears, of accountants must be kept to an unrealistically low figure like £200 in the case in question).

A realistic accountancy fee of say around £1,200 might have paid for a knowledgable accountant who could have saved much more than the extra £1,000 fee in terms of National Insurance savings alone. 

 

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30th Nov 2012 13:24

As you can imagine

this an oft debated and long running discussion. Don't think it is rulez iz rulez; a lot of thought goes into Accounting Standards (even if one doesn't always agree with them).

The fundamental point here is the difference between cost and value. The cost of the asset is spread over its economic life to the business. It is not meant to be a market value. There is not the time (and I doubt most of us have the energy) to go through it all. But it stems from accounts being prepared on a going concern basis rather than a break up basis. There is of course scope to write down assets in certain circumstances or, indeed, in some cases to revalue them.

 

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30th Nov 2012 13:38

It is

worrying that you don't understand the difference between accounting profits and cash flow.

 

true and fair......if in year 2 you have £20,000 of internet sales...would you suggest that there were effectively no related website costs (because under your 'special' rules you wish to claim all of the expense in year 1)....is that a fair reflection of the costs associated in creating £20k of income.....

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30th Nov 2012 14:12

No

justsotax wrote:

worrying that you don't understand the difference between accounting profits and cash flow.

 

true and fair......if in year 2 you have £20,000 of internet sales...would you suggest that there were effectively no related website costs (because under your 'special' rules you wish to claim all of the expense in year 1)....is that a fair reflection of the costs associated in creating £20k of income.....

Yes, if I have server costs in year two, then they are an expense for year two, if I have web development costs in year 2, they are a cost for year two. That is a much fairer reflection of the reality.

The £20K income was not created by the website. It was created by my imagination and business acumen. 

 

I do understand that there is a difference between accounting profits and cash flow. Of course I do, my point is that cash flow provides a more true and realistic measure of profits and assets. The accounting method creates profits that don't really exist. But the tax is real enough; funny that!

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30th Nov 2012 13:38

Wind up?

Is this a wind up? @PeterLev: You remind me of those clients who keep on asking the same question over and over again in the hope you will finally get the answer you want, rather than the correct one.

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30th Nov 2012 14:20

wind up

ShirleyM wrote:

Is this a wind up? @PeterLev: You remind me of those clients who keep on asking the same question over and over again in the hope you will finally get the answer you want, rather than the correct one.

 

No wind up. I'm thinking the same. It's like a parallel world. No, you haven't made a profit, but then 'capitalize' the asset and lo... ... a big juicy profit. Except the company didn't make a profit. 

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30th Nov 2012 13:41

So are you saying

if you buy £50,000 widgets in Year 1 then you have made a £50,000 loss and when you sell them in Year 2 for £100,000, you have made a £100,000 profit?

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30th Nov 2012 14:16

Yes

paulwakefield1 wrote:

if you buy £50,000 widgets in Year 1 then you have made a £50,000 loss and when you sell them in Year 2 for £100,000, you have made a £100,000 profit?

 

Year 1, assuming you make no sales, you make a £50,000 loss.

Year 2, you sell the lot for £100,000, you make £100,000 profit.

Total profit carried forward after 2 years -£50,000 + £100,000 = £50,000. What is wrong with that? 

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Believe it or not accounts try to capture reality

PeterLev wrote:

paulwakefield1 wrote:

if you buy £50,000 widgets in Year 1 then you have made a £50,000 loss and when you sell them in Year 2 for £100,000, you have made a £100,000 profit?

 

Year 1, assuming you make no sales, you make a £50,000 loss.

Year 2, you sell the lot for £100,000, you make £100,000 profit.

Total profit carried forward after 2 years -£50,000 + £100,000 = £50,000. What is wrong with that? 

What is wrong with that is that it is nonsense. If I've bought £50,000 of widgets and have them sitting in a warehouse I haven't lost any money. I've exchanged one form of value (cash) for another (widgets). This really shouldn't be that hard to understand, but luckily you don't have to, because accountants can do it for you.

In your position I wouldn't be worrying about the princely sum of £600 of CT paid this year rather than next because your accountant, possibly correctly, believed that £3000 of your purchases couldn't be expensed in year one. I'd be pondering why I didn't save (permanently) a much larger sum in National Insurance by arranging matters such that profits were larger and wages were lower. The increased CT would have come back twice over in lower PAYE and NI. But hey! Keep right on worrying about the £600 pipeline payment.

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By BKD
30th Nov 2012 14:31

QED

PeterLev wrote:

paulwakefield1 wrote:

if you buy £50,000 widgets in Year 1 then you have made a £50,000 loss and when you sell them in Year 2 for £100,000, you have made a £100,000 profit?

 

Year 1, assuming you make no sales, you make a £50,000 loss.

Year 2, you sell the lot for £100,000, you make £100,000 profit.

Total profit carried forward after 2 years -£50,000 + £100,000 = £50,000. What is wrong with that? 

If that is a demonstration of your business acumen, I'm beginning to see why profits are so low. When are you going to appear on Dragons' Den - I could do with a good laugh?

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30th Nov 2012 15:17

Acumen

BKD wrote:

PeterLev wrote:

paulwakefield1 wrote:

if you buy £50,000 widgets in Year 1 then you have made a £50,000 loss and when you sell them in Year 2 for £100,000, you have made a £100,000 profit?

 

Year 1, assuming you make no sales, you make a £50,000 loss.

Year 2, you sell the lot for £100,000, you make £100,000 profit.

Total profit carried forward after 2 years -£50,000 + £100,000 = £50,000. What is wrong with that? 

If that is a demonstration of your business acumen, I'm beginning to see why profits are so low. When are you going to appear on Dragons' Den - I could do with a good laugh?

 

Please, cut out the insults. In cash terms I have lost £50,000 if I couldn't find a buyer for my widgets in year 1. So I made a loss. If the business stopped there and then, I made a loss. (I understand the accounting principle is that the business continues to trade, so don't fire more insults). But on the basis of fact, year 1 was a loss. Year 2 was a profit. 

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By BKD
30th Nov 2012 16:09

It must be Friday afternoon

PeterLev wrote:

Please, cut out the insults. In cash terms I have lost £50,000 if I couldn't find a buyer for my widgets in year 1. So I made a loss. If the business stopped there and then, I made a loss. (I understand the accounting principle is that the business continues to trade, so don't fire more insults). But on the basis of fact, year 1 was a loss. Year 2 was a profit. 

You are the one insulting the professional intelligence of all those that are trying to help you clear up your misunderstanding in continuing to argue with them. When will you realise that accounts, and tax, have little to do with cash? In your example above, you will have made a loss of £50k only if you never manage to find a buyer. On the basis of fact, if facts are what you want to discuss, you have laid out £50k in cash in year 1 and replaced it with a valuable asset ostensibly worth £50k. On the basis of fact, there was no loss in year 1.

That's it for me with this thread - if you wish to persist with your protestations, go ahead but, to use a phrase that is fast becoming over-used - you're p***ing into the wind.

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30th Nov 2012 16:22

True and fair?

BKD wrote:

PeterLev wrote:

Please, cut out the insults. In cash terms I have lost £50,000 if I couldn't find a buyer for my widgets in year 1. So I made a loss. If the business stopped there and then, I made a loss. (I understand the accounting principle is that the business continues to trade, so don't fire more insults). But on the basis of fact, year 1 was a loss. Year 2 was a profit. 

You are the one insulting the professional intelligence of all those that are trying to help you clear up your misunderstanding in continuing to argue with them. When will you realise that accounts, and tax, have little to do with cash? In your example above, you will have made a loss of £50k only if you never manage to find a buyer. On the basis of fact, if facts are what you want to discuss, you have laid out £50k in cash in year 1 and replaced it with a valuable asset ostensibly worth £50k. On the basis of fact, there was no loss in year 1.

That's it for me with this thread - if you wish to persist with your protestations, go ahead but, to use a phrase that is fast becoming over-used - you're p***ing into the wind.

 

There is no misunderstanding. I know accounting profit and real profit is different. I understand the explanations. But the explanations fall short of justifying why they are the best way to give a true and fair view of the state of a company's finances when the result of applying these principles is to create paper profits above that really generated by the business, and over-states the true (open market) value of assets.

But it seems that most posters, I guess because these are the rules, think this is the way to present a true and fair view of the state of the company's finances. The gulf between fact and reality is being dismissed as irrelevance. 

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Don't value assets at fire-sale prices

PeterLev wrote:

There is no misunderstanding. I know accounting profit and real profit is different. I understand the explanations. But the explanations fall short of justifying why they are the best way to give a true and fair view of the state of a company's finances when the result of applying these principles is to create paper profits above that really generated by the business, and over-states the true (open market) value of assets.

But it seems that most posters, I guess because these are the rules, think this is the way to present a true and fair view of the state of the company's finances. The gulf between fact and reality is being dismissed as irrelevance. 

It is nothing to do with the rules, and everything to do with fact and reality.

If you don't think that the website your business spent £20k on is worth anything to the business then it sounds as if the money was wasted.

Assets (be they real things like stock or property, or relatively abstract things like designs or websites) shouldn't be valued at "fire sale" prices. That isn't a true reflection of their worth.

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30th Nov 2012 16:55

not fire sale - market value

TomMcClelland wrote:

PeterLev wrote:

There is no misunderstanding. I know accounting profit and real profit is different. I understand the explanations. But the explanations fall short of justifying why they are the best way to give a true and fair view of the state of a company's finances when the result of applying these principles is to create paper profits above that really generated by the business, and over-states the true (open market) value of assets.

But it seems that most posters, I guess because these are the rules, think this is the way to present a true and fair view of the state of the company's finances. The gulf between fact and reality is being dismissed as irrelevance. 

It is nothing to do with the rules, and everything to do with fact and reality.

If you don't think that the website your business spent £20k on is worth anything to the business then it sounds as if the money was wasted.

Assets (be they real things like stock or property, or relatively abstract things like designs or websites) shouldn't be valued at "fire sale" prices. That isn't a true reflection of their worth.

 

I'm not suggesting assets be valued at fire-sale values. Just a realistic market value. If it cannot be demonstrated by the company or the accountant that something is worth something, how can it be fair to say it is an asset and a value attached to it - worse still, valued at an inflated value and generate paper profits into the bargain, which is my bone of contention?

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30th Nov 2012 14:38

OK - Scenario 2

Year 1, being slightly suspicious of your customer, you get £100,000 up front. Since this is towards the year end, you don't get and pay for the widgets until Year 2. Are you now saying you have £100k profit Year 1 and £50k loss Year 2? If so, it'll be rather unfortunate when they stop allowing losses carried back for tax purposes (which is not so unlikely).

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30th Nov 2012 15:29

Profit

paulwakefield1 wrote:

Year 1, being slightly suspicious of your customer, you get £100,000 up front. Since this is towards the year end, you don't get and pay for the widgets until Year 2. Are you now saying you have £100k profit Year 1 and £50k loss Year 2? If so, it'll be rather unfortunate when they stop allowing losses carried back for tax purposes (which is not so unlikely).

 

Not quite sure, but I think you are suggesting I find a buyer to pay up front for £100,000 of widgets in year 1, say December, then buy and pay £50,000 for the widgets in year 2, say January. Then give them to the prepaying customer? If so I'd say I have £100,000 in sales, and have to make a  provision for £50,000 I will pay to fulfil the order. So if there are no other obligations, I can treat £50,000 as profit in year 1, and will make no profit in year 2.

Doing it this way I am not inflating asset values or creating a paper profit where there is no equivalent real profit. 

In my case as explained on the OP, £3,000 profit has appeared which was not generated by by business. It's purely a theoretical paper profit. My concern is that most the replies here seem to feel that this is fine and that the purpose of the accounts is not to reflect the real profits or asset values of a business.

 

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By BananaMan
30th Nov 2012 15:39

Provisions

PeterLev wrote:

My concern is that most the replies here seem to feel that this is fine.

It is fine. Accounting Standards say so and everyone who actually understands the legislation will agree.

Your knowledge of provisions regarding timing of payment and matching costs to income makes it very hard to believe that you can't grasp the issue here.

 

PeterLev wrote:
 

£3,000 profit has appeared which was not generated by by business .

 

It was generated.

 

 

Another question may be why on earth did you spend £20k on a website when you think it has no future value to the business?!

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30th Nov 2012 16:06

Because

Dan Michel wrote:

PeterLev wrote:

My concern is that most the replies here seem to feel that this is fine.

It is fine. Accounting Standards say so and everyone who actually understands the legislation will agree.

Your knowledge of provisions regarding timing of payment and matching costs to income makes it very hard to believe that you can't grasp the issue here.

 

PeterLev wrote:
 

£3,000 profit has appeared which was not generated by by business .

 

It was generated.

 

 

Another question may be why on earth did you spend £20k on a website when you think it has no future value to the business?!

 

Why on earth did you spend £20k on a website when you think it has no future value to the business?!

Because that was the cost of doing it. I'm not saying it has no future value - I'm saying it may or may not, but until it is proven then the more true and fair view (or conservative if you prefer) is to count the sales and profits as the occur, not take the cost of developing the thing and use the cost to create a profit. Let the website itself make the profit in due course, if it can. 

 

Quote:

 

"£3,000 profit has appeared which was not generated by my business." 

 

It was generated.

Only by the accountant. A paper profit was created. The business did not generate £3,000 in any real sense that I can lay hands on it.

 

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By BananaMan
30th Nov 2012 16:08

Share capital

How much share capital did you invest? £1?

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By BKD
30th Nov 2012 16:17

Just one more, then I'm done

PeterLev wrote:

Only by the accountant. A paper profit was created. The business did not generate £3,000 in any real sense that I can lay hands on it.

You spend £100k on widgets. On the last day of the year you sell them all for £150k. But the customer doesn't pay for 60 days. At the year end, the business has not generated £150k that you can lay your hands on. So - in your world (what colour is the sky there?) you have made a loss of £100k in year 1? For the hard of understanding, an overdraft of £100k does not equal a loss of £100k.

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