Income Tax Cont’d
Employment Income
Savings and Investment
Income
Employment IncomeIncome Tax (Earnings &
Pensions) Act 2003
(ITEPA)
Earnings from offices and
employments
Page 12
Offices
• ‘Office’ - a position that exists
independently of the person holding
it
• Company directors, public offices
such as mayors, etc, church offices,
etc
Employment
• Does the individual have a ‘contract of
service’ (employee) OR a ‘contract for
services’ (self employed)
• Other factors (not conclusive)
- taking orders, set hours, sick, holiday,
overtime pay (employed)
- risking own capital, control over work,
providing own equipment (self
employed)
Earnings
• Includes any salaries, fees, wages
and any benefits if they are money
or money’s worth
• A question of fact but generally any
payments made by employer to
employee will be treated as
earnings. Onus on taxpayer to show
otherwise
Fringe benefits
• Three sets of rules:
• 1. At common law
• 2. Special rules to directors and those
earning over £8,500
• 3. Specific provisions applicable to all
employees
Common law
• Convertibility - the benefit will be
earnings if the employee could
convert it into cash
• Employer supplies laptop: employee
could sell it, taxed on second hand
value
• If title remains with the employer, or
for some other reason it could not be
sold: no tax
All directors and
employees earning £8,500
or more
• Employee taxed on the ‘cash
equivalent’
• Cash equivalent is the cost to the
employer
(less any reimbursement made by
employee)
• See Pepper v. Hart (school fees
case)
Company cars
• New system from 2002
• Tax is based on car’s exhaust
emissions, especially CO2
• Employee charged on ‘cash equivalent’
Take official price of car, multiply by
emission rating (between 15% and 35%)
e.g. £15,000 x 20% = income of £3,000
Loans to employees
• Loans under £5,000 tax free
• If loan over £5,000, government fixes
official rate of interest
• Loans carrying interest below this rate
(or no interest) give rise to tax charge on
the difference
• No charge if employer’s business is to
lend money and loan on same terms to
equivalent non-employees
Housing
• Generally, employee taxed on ‘annual
value’ of the property (reasonable rent),
less any contribution from the employee
• Special rules where employee required to
live in a particular place for the
performance of the duties of the job (eg
caretakers) and for very valuable
properties where annual value over
£75,000
Golden handshakes
• Terminal payments up to £30,000
generally tax free
• Covers virtually all redundancy
payments
• Anything above that will be earnings
and taxable as income
Expenses
• What expenses can an employee
claim against his/her income ?
• Travel expenses tax free if incurred
in the course of employment (not
travel from home to work)
• Other expenses must have been
incurred ‘wholly, exclusively and
necessarily’ for the employment
P.A.Y.E. system
• Income tax deducted from employees
by the employer under the Pay As You
Earn (P.A.Y.E.) system, and sent
monthly to HMRC
• Employer supplied with employee’s tax
code to enable deductions to be
calculated
• National Insurance also deducted and
sent under same system (with
employer’s contribution)
Rates for employment
income
• Same as for other non-savings
income
• Personal allowance - £5,225
• Rates are 10%, 22% and 40% using
the bands on pg 7
New Topic – Savings and
Investment Income
Part 4 ITA 2005
Chp 4 – pg 17
• ‘Pure income’: e.g. interest paid on
bank or building society account
• Dividends
• All savings income is treated as the
‘top slice’ of the taxpayer’s income
• Dividends rank above pure income
Special tax rates
• Pure income
– 20% basic rate
– 40% higher rate
• Company dividends
– 10% basic rate
– 32.5% higher rate
Most savings income is paid net
of tax and must be grossed up
• Income such as interest on savings held
at a Building Society has tax deducted
before it is paid to the individual.
• The taxpayer receives the income ‘net’
of tax but it must be ‘grossed up’ in
order to calculate the tax liability
correctly.
• Why gross up ?
Grossing up
• Work back from the net amount
received to calculate the gross
figure and the tax paid.
• Formula on page 8 of the handbook.
• Amount received x 100 = gross
receipt
(100 - tax rate deducted)
Example – pg 18
• Interest received of £80
• Tax has been deducted at rate of
20%
• 80 x 100 = £100- the gross income
(100-20)
• So the tax paid was £20
Interest on savings has tax
deducted at 20%
• Taxpayer’s income is the grossed up
amount, but basic rate tax treated as
paid so if this income falls within the
basic rate there is no further tax liability.
• Higher rate taxpayers pay additional
20% (to meet 40% higher rate) on
submission of their tax return
Example, page 18
• Interest of £1,000
• 20% tax deducted, taxpayer receives
£800
• Treated as £1,000 income on which
basic rate tax has been paid
• If higher rate taxpayer, liable to 40%
tax on £1,000 = £400
• But £200 paid at source, so further
£200 to pay
Company dividends, etc
• No tax actually deducted, but taxpayer
gets tax credit of 10% of the grossed up
amount
• e.g. Net dividend of £900
• Gross income is 900 x 100 / (100 – 10) =
£1000
• Tax credit = £100
• If basic rate taxpayer, no more tax
• If higher rate taxpayer, pay additional
22.5% of the gross figure = £225 (to meet
32.5% higher rate)
Practice question
Patrick receives a net dividend from his
shares in Manchester United of £350.
1) Work out the gross dividend income.
2) How much tax will he have to pay if the
dividend falls into
a) the basic rate band; or
b) the higher rate band ?
Answer
1) 350 x 100 / (100 – 10) = £388.88 gross
2) a) nil because the tax credit (£38.88)
satisfies the basic rate
b) 22.5% of £388.88 = £87.50
or say 32.5 % of £388.88 = £126.39
then minus tax credit of £38.88 =
£87.50
Next lecture
Capital Gains Tax
Reading – chps 6 and 7