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What the political parties’ tax policies will mean for small business clients

Which parties’ tax policies will leave your clients paying more tax on the sale of their business or on the income they take from their companies? Rebecca Cave has read all the manifestos and crunched the numbers so you don’t have to.

4th Dec 2019
Tax Writer Taxwriter Ltd
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General election
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Imagine you have two clients, Peter and Jane, who want to know how the tax proposals contained in the main party manifestos will affect the tax they have to pay in 2020/21 and beyond.

Peter and Jane both run their businesses through their own one-person companies, and neither company is subject to IR35 or the off-payroll rules. They do not have employees. Jane is winding down ready to retire and plans to liquidate her company in 2020. Peter’s company makes a steady profit of £50,000 before deduction of his salary.  

How much tax will Peter and Jane pay if the Conservative, Labour or Liberal Democrat tax policies are adopted?

Jane – CGT on retirement

Jane expects to make a gain of £200,000 when she liquidates her company. Her income in the year she retires will be covered by her annual exemption of £12,500.

Conservatives

The Conservative manifesto doesn’t mention changes to the rates of capital gains tax, however it does say that entrepreneurs’ relief will be “reviewed and reformed” as it is not meeting its objectives. We have assumed that this means Jane will no longer qualify for entrepreneurs’ relief (ER) on the gain realised on liquidation of her company. Jane will pay CGT at 20% (rather than the ER rate of 10%) on her entire gain after deduction of the annual exemption, which we assume will remain at £12,000.

Labour   

Income and gains will be taxed at the same rates under a Labour government. However the 45% rate threshold will be reduced to £80,000 and a new 50% band will start at £125,000. The CGT annual exemption will be reduced to £1,000, and entrepreneurs’ relief will be abolished.

Liberal Democrats

The Lib Dems will also tax gains at the same rates as income and abolish the annual exemption. Also all income tax rates will rise by 1%.

Jane’s tax on gains under: Conservatives Labour Lib Dems
  £ £ £
Taxable gain 200,000 200,000 200,000
Annual exemption (12,000) (1,000) nil
Net gain 188,000 199,000 200,000
       
CGT @ 20%/21% up to £37,500 37,600 7,500 7,875
[email protected]%/ 41% to £80,000/ 150,000   17,000 46,125
CGT at 45% to 125,000   20,250  
CGT at 50%/46% above £125,000/ 150,000   37,000 23,000
Total tax due: 37,600 81,750 77,000
Proceeds after tax: 162,400 118,250 123,000
Jane will pay more tax under all flavours of government as all three parties are expected to remove or reform entrepreneurs’ relief.

Peter on annual profits

Peter’s company pays him a salary at the NI threshold of £8,632, and he takes the balance of the available cash from the company as dividends. He has no other income.

Conservatives

The Conservative manifesto promises to freeze the rates of income tax and NIC. The threshold for employee’s NIC is to increase £9,500 in 2020/21, but as there is no guarantee that the employers’ threshold will also increase, Peter has decided not to raise his salary in 2020.

There is a commitment to keep corporation tax at 19%, but no changes are proposed for dividend tax or the dividend allowance.

Labour

Corporation tax will be imposed at two rates in 2020/21; 19% for small companies and 21% for larger companies, but both these rates will rise over time. 

The big hit for one-man companies will be taxation of dividends at the same rates as other income, with no dividend allowance. The Labour manifesto is not explicit about whether national insurance will be applied to dividends, as it says: “equalise the tax treatment of income from dividends with other income”. For these purposes we will assume dividends will remain free of NIC.

Lib Democrats 

Corporation tax will rise to 20% for all companies. All income tax rates will rise by 1%, but there is no mention of the thresholds for income tax or national insurance changing.

 Peter’s profits under: Conservatives Labour Lib Dems
(rounded to nearest £) £ £ £
Company’s gross profit 50,000 50,000 50,000
Peter’s wages (8,632) (8,632) (8,632)
Profit before tax 41, 368 41,368 41,368
Corporation tax: 19%, 21% 20% (7,860) (8,687) (8,274)
Payable as dividends 33,508 32,681 33,094
Assume personal allowance: £12,500      
Dividend allowance (2000) Nil Nil
Personal allowance in excess of wages (3,868) (3,868) (3,868)
Taxable dividends 2,7640 28,813 29,226
Tax at 7.5% (2,073)    
Tax at 20%/ 21%   (5,763) (6,137)
Dividend income after tax 31,435 26,918 26,957
Net employment income 8,632 8,632 8,632
Total income after tax: 40,067 35,550 35,589

Although Peter is not a higher rate taxpayer and certainly doesn’t earn anywhere near £80,000, he is expected to pay £4,517 more in tax under Labour, and £4,478 more under the Liberal Democrat policies.

Replies (24)

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By ireallyshouldknowthisbut
04th Dec 2019 14:06

I think you comps show how ridiculously low the tax is now, and yet we (apparently) can't afford proper mental health care, support for low income persons, homeless etc, and its fine for families to use food banks.

Your Peter is paying just 20% in taxes by arranging a £50k income via a company.

Or course he wont pay the Labour/Lib dem rates (a heady 28%, the horror!) as he will most probably disincorporate and trade as a sole trader and pay taxes of £11k.

Employees earning £50k will of course pay £12,500 in taxes, excluding employer's NI.

I see no panic here in the level of taxes proposed other than personal greed without thinking of wider society and what your taxes pay for.

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Replying to ireallyshouldknowthisbut:
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By Rammstein1
04th Dec 2019 14:54

I don't think people would mind paying more in tax if it was actually spent wisely. I prefer to have lower taxes and to donate to the charities of my choice rather than have it be wasted.

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Replying to Rammstein1:
By ireallyshouldknowthisbut
04th Dec 2019 18:16

Whilst you may do this, unfortunately, based on the straw poll of my clients, many people say this, but few actually do it. I think I can count on one hand the number of clients donating more than £100 a month, and that is often to a Church and not "proper" charity.

I am afraid you need taxation to get things paid for.

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Replying to ireallyshouldknowthisbut:
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By meadowsaw227
09th Dec 2019 09:51

Personal greed - get a grip
Do you hug trees as well !

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By justsotax
05th Dec 2019 16:50

Under the conservatives Peter will contribute nothing towards any of the state benefits he will no doubt benefit from in the long term (at the very minimum state pension)….in addition his house will be protected from being sold should he go into care....(so is the conservatives suggestion)….

I wonder if Peter or Jane asked about whether the waiting times at hospital are likely to go up or down, whether they will be able to access doctors appointments, what provisions their are for them if they get ill, or need a care home? Or perhaps they should ask how these areas will be improved by all 3 parties yet one seems to be asking for no more money from them.....

A poor piece of work that misses the point of general taxation....

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Replying to justsotax:
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By supremetwo
06th Dec 2019 11:41

justsotax wrote:

I wonder if Peter or Jane asked about whether the waiting times at hospital are likely to go up or down, whether they will be able to access doctors appointments, what provisions their are for them if they get ill, or need a care home? Or perhaps they should ask how these areas will be improved by all 3 parties yet one seems to be asking for no more money from them.....

A poor piece of work that misses the point of general taxation....


Well, here is one reason why the NHS is under strain.
And easy to solve - just eat less and exercise more.
https://www.theguardian.com/society/2019/nov/14/obesity-almost-doubles-i...
The number of people in England who are obese has almost doubled over the past 20 years to 13 million, which is just under 30% of the population.

And none of the parties are highlighting it for fear of losing votes.

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Replying to justsotax:
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By poveyt
06th Dec 2019 12:58

I disagree with your assessment that this is a poor piece of work. What this sets out very clearly is the various views towards entrepreneurs from the major political parties. They all say on camera that they support small businesses, but it is clear from this analysis that this is not entirely true. It also makes it clear that it won't be just 5% who pay more - it will be the risk takers as well. Just the sort of people who need to be encouraged and supported. That in turn grows the private sector which can then pay for the public sector.

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By mkowl
06th Dec 2019 11:17

Put that on the side of a bus Mr Corbyn as you launch the small business manifesto today.

Thanks for the numbers which I had been mulling myself. The interesting one would be if you take the profit as salary instead - as I think that would result in a lower overall tax bill but still up on current of course

The Labour manifesto also noted that the small company rate would apply based on turnover of 300k not profit which would impact if that was not a typo

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By cathygrimmer
06th Dec 2019 11:33

As a small business similar to those in this article, I would not be happy to have to pay more tax if it isn't going to change anything for the poor, the elderly, the homeless, the physically or mentally ill or the environment and it just going to be used to keep tax rates for high earners low, reduce IHT for the wealthy and make the rich richer. But I'd happily pay more tax if it is going to be spent on improving the situation of the poor, elderly and unwell and counteracting climate change. Not everyone is only interested in how much money they can get. It's a shame to focus only on that aspect in this article rather than the bigger picture.

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By youngloch
06th Dec 2019 12:22

There's one big issue for small businesses and that is whether people can actually afford to pay higher taxes.

Call it personal greed if you like but people/businesses adapt their lives to their incomes, especially when the rules have been in place for such a long period of time.

I don't see many clients with huge surplus incomes which means that higher tax rates will mean far more small businesses struggling, less investment, redundancies, small companies folding and, as a result, probably a lower tax take from the sector. At the end of the day you can give someone a big bill and, short-term, that will make your figures look good but a debtors list (whether you are in business or the government) won't pay the wages at the end of the month!

Let's face it, less money in your pocket means less money to spend, that then effects the businesses you would buy from so they then suffer and suddenly you are in a downward spiral as profits fall and so too do tax takes - albeit for many the tax bill will be the last thing they pay........

Any changes would have to be introduced very gradually - the plans of Labour and the Lib Dems are asking for trouble.

Small businesses need a carrot and not a stick - the healthiest way to higher tax income for the government is higher incomes/profits for everyone. Sure, bring in a 1% or 2% rise which can be adapted to but these proposals for dividends are atomic considering how many businesses were encouraged to incorporate under Labour.

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By Nebs
06th Dec 2019 12:27

Add an extra page to the tax return, with 50 boxes, tick as few or as many as you like. They would include such items as Mental Health, Police, Potholes etc, and 10% of your tax would be shared out over all the boxes you tick.

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Replying to Nebs:
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By flightdeck
06th Dec 2019 16:50

I've always thought that being able to vote on how they spend my tax money would make me feel better about paying tax. (It would also need to allow you to say "and spend less on this"). It would give them a great insight into what matters to people because they all seem terribly disconnected from the populace.

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By tonyaustin
06th Dec 2019 12:38

Doesn't history show that lower tax rates actually generate more income for the Treasury?

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Replying to tonyaustin:
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By cathygrimmer
06th Dec 2019 13:09

It isn't that simple. My understanding is that the growth in income only offsets the fall in tax revenue if you are cutting from high rates - around 70%/75% has been suggested as the apex of the Laffer Curve if I recall correctly. Not that income growth for the Treasury necessarily helps those who need help anyway.

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Replying to tonyaustin:
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By flightdeck
06th Dec 2019 16:44

I recall a couple of years ago an article about how corporate tax receipts had risen after a reduction in the rate because, if memory services, at some point the rate isn't punitive enough to make people put effort into thinking about how to wriggle their corporate structures around in order to maximize tax avoidance (not evasion, legitimate avoidance).

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Replying to flightdeck:
By ireallyshouldknowthisbut
06th Dec 2019 17:53

Unfortunately if you actually look at the CT receipts in the red book, they are only up on raw terms, but down on any other measure. Eg % of GDP, % of total taxes. Obviously the data set from/to matters in terms of the economic cycle etc.

Most business cant change where they pay tax, so pay at the prevailing rates.
Multinationals who can income shift out of the UK, will always pick 5% or 10% over 17% anyhow. Its a myth that (say) halving CT from 30% to 15% = more tax. That effect only arises at much higher levels. Eg if CT was a punative 90%, cutting taxes to 50% would mean more tax, as at 90% you would expend a lot of energy not paying it. Its 25+ years since I did my degree, but I seem to recall the max tax take is about 50-70% in most models, but as with all economics its all down to your assumptions. Its nowhere near as low as 20%.

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By Ian McTernan CTA
06th Dec 2019 13:12

As an employee earning £50,000 and without taking the risks associated with running and owning the company, paying staff instead of yourself when funds are tight, etc, an employee earning £50,000 ends up with £37,015.

So under Labour or LibDem (and Rebecca has ignored Labour's planned rise in CT to 26%), the owner of the business will be worse off than his workers! not only that, but the business also has to fund all those benefits for it's employees, plus pension payments plus 13.8% employers NIC.

@ireallyshouldknowthisbut, under current taxes the employee ends up with £37,015 and the owner gets slightly more at £40,067 for taking all the risk, which seems very fair to me. Taxing the hell out of small company owners (and showing what a complete lie the 5% claim was) won't encourage people to set up companies and take on the huge risks involved- it will have precisely the opposite effect.

And he won't trade as a sole trader unless he's pretty dumb and wants his house to be even more on the line if the business goes wrong than it already is- you seem to assume people only trade through limited companies for the very small tax advantage.

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Replying to Ian McTernan CTA:
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By justsotax
06th Dec 2019 13:32

I am inclined to agree with Tonyaustin on reflection - lets charge a flat rate of 5% tax on anyone earning below 50k....I like the idea that charging a lower rate will bring in more....

*oh sorry you meant in regard to the rich guys.....

On the other hand given a binary choice between high tax and low tax - there seems to be a simple answer....because we know making decisions based upon a binary choice is by far the best way to get a good result....

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Replying to justsotax:
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By justsotax
06th Dec 2019 14:09

the only remaining question is where is Boris getting his money from if its not tax....

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Replying to Ian McTernan CTA:
By ireallyshouldknowthisbut
06th Dec 2019 18:02

@Ian, its an interesting point if taxes SHOULD be lower for business vs employees.

A lot of the issues we have in tax (disguised employees etc) are due to them being lower.

I really don't know if ethically/morally if that ought to be the automatic case. Yes its risky starting on your own, but its not normally the tax angle that prompts people to start up on their own. Most the entrepreneurial types I deal with do it for the buzz, not due to the after tax income which is why I think the 10% tax rate on ER is plain dumb.

Moreover business owners(unless they suck at it) earn a lot more than their workers in any case, and what is more when you earn high, you seem to be able to do so and pay not much tax at all. Is this morally just? I am not sure it is.

One of the main issues we have in this country is a ever widening gap between rich and poor. Its certainly widend in my lifetime (ex council house boy made good) In that gap most of the social problems arise which threaten those a the top as well as those on the bottom of the heap. I am all for narrowing that gap.

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Replying to ireallyshouldknowthisbut:
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By meadowsaw227
09th Dec 2019 09:56

My background is similar to your own but nobody gave me what I have worked hard for.
What you are asking for is a race to the bottom to sort out all the people who cant ! / wont help themselves.

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Replying to meadowsaw227:
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By justsotax
09th Dec 2019 13:47

Taxes pay for more than just supporting those who have not worked as 'hard' as you.....

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By JD
06th Dec 2019 14:58

Interesting - Of course it does not take into account the extra monies being paid to staff as part of any NLW increase, which will affect hospitality, retail and so on significantly. That should save a bit of tax as profits will have fallen.

Out of interest is there any analysis of the long term effect on pensions (as shares are replaced with debt) if nationalisation takes effect

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By North East Accountant
09th Dec 2019 10:52

Lots of LLPs may be the order of the day if Labour gets in.

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