Two new tax allowances making their debut from 6 April are designed to make life easier for Theresa May’s micro-entrepreneurs - the people inhabiting the world of the sharing economy - but they may have unexpected side effects if draft clause 19 with draft schedule 5 to the Finance Bill 2017 go through without further modification.
Sarah McNeill takes a closer look at the trading allowance and property allowance, and their unexpected side effects.
The two allowances are meant as simplification measures. The property allowance is there “to support the sharing economy” according to GOV.UK, while the aim of the trading allowance is to “reduce the complexity for some individuals who will no longer have to decide if the activity amounts to a trade or not.”
Airbnb and eBay
BDO’s take on the allowances highlights the benefit to those “earning minimal amounts from auction sites such as eBay.”
“The property allowance will no doubt benefit individuals renting their own homes on short term lets, via such platforms as Airbnb, and also those letting out garages, parking spaces and small plots of land.”
“Welcome certainty to individuals in receipt of small amounts that will not need to be declared to HMRC” is something else BDO applauds.
How they work
The way that the allowances are meant to work is like this.
Each allowance is designed to exempt £1,000 of potentially taxable income. So people with small amounts of income from goods, property, services or the sharing of assets, are not required to declare the income or pay tax on it, if it stays below the magic £1,000 threshold.
If the £1,000 limit is exceeded, they can elect to deduct the allowance from receipts, or failing this, deduct actual expenses.
And here the fun starts. Many of the professional bodies have expressed misgivings about how the allowances will work in practice.
The ATT has a long list of unanswered questions, touching on the interaction between deemed ‘nil’ income with entrepreneurs’ relief on subsequent disposal of capital assets used in the relevant trade, the question of operating on a commercial basis in relation to possible future loss relief claims and practical difficulties in relation to the required elections.
When the allowances were first mooted, PwC tax partner, John Steveni, was one of the first to foresee unintended side effects. And his was a positive:
“I think it… sends a message if you have been earning more than £1,000 from these sorts of activities, but it hadn’t occurred to you that you might be taxable on it,” he commented.
“It is a useful flag to such people that maybe they ought to think about declaring it. Although I don’t think it’s been stated that that is intentional, it is a useful side-effect.”
But wave Steveni’s flag – and then what?
The question of when to notify – “the cliff-edge impact of relevant income exceeding the allowance” is something the ATT has picked up on.
‘Clear guidance’ from HMRC, around when business records need to be kept, elections for partial relief, and when HMRC needs to be informed about a trading or property business , is needed, according to LITRG.
The view from ICAS is that the allowances were likely to muddy the water. “Without a record- keeping requirement, who is going to know now when to notify taxable income?” asked Philip McNeill, head of tax (Tax Practice and Small Business Taxes) at ICAS.
“For many low-income traders survival is the name of the game. Others think of their activity as a non-taxable hobby.
“What happens when you’re looking at £1,200 worth of income? If, through uncertainty, you fail to notify and miss the election deadline for the partial relief allowance, the full £1,200 can become taxable,” he said.
Ironically, the way the allowances work means that taxpayers with trading, property or miscellaneous income of more than £1,000, may be on to a good thing, too.
“There look like all sorts of accidental side effects,” commented McNeill. “It’s like handing sole traders a £1,000 minimum deduction, regardless of what they actually spend. With partnerships, there is the possibility of £1,000 tax-free income by partners billing some work in their own name. Is that really what was intended?”
And ICAEW’s comments on the draft legislation highlight a further unexpected side effect.
This is the fact that either allowance could potentially be used where a shareholder provides goods, services, property or assets to a company in which they hold an interest.
This opens the door to the possibility of the company claiming a deduction for an expense, if incurred wholly and exclusively for the purposes of the trade, and the income being exempt as regards the individual.
“The draft clause should be amended to provide an exclusion similar to that introduced by new sections 783P and 783Z6,” the ICAEW recommended.
“For simplicity we would suggest that the exclusion is drafted to deny the use of either allowance where an individual is a participator (or an associate of a participator) in a close company, as defined in part 10, Corporation Tax Act 2010. Although this will not close the door completely it will prevent the bulk of casual mischief.”