TAXguide 05/21: Tax issues in 2021

Finance Act 2020 (FA 2020) passed us barely noted, given the huge volume of announcements about COVID-19 during the summer and autumn of 2020.

Ahead of the Budget, Benneyworth highlights some key tax areas for practitioners, including: the taxation of coronavirus support payments; company car changes; joint and several liability of directors for company tax debts; directors’ loan accounts; Making Tax Digital for VAT, and changes to VAT MOSS due to Brexit.

This TAXguide has been written by Rebecca Benneyworth and edited by Philippa Vishnyakov.

Support for businesses continues into 2021, and at present the furlough scheme (Coronavirus Job Retention Scheme or CJRS) is set to continue until the end of April 2021. Businesses which have received support under the various schemes made available in 2020 will need to consider their entitlement to the support they have received to ensure that where inappropriate claims have been made, these are dealt with in a timely manner.

Coronavirus support payments to which the recipient is not entitled

Where a client has received a coronavirus support payment to which they are not entitled, Sch 16, FA 2020 introduces the mechanism by which the monies are to be recovered. Paragraph 8 of the Schedule imposes an income tax charge on any payments to which the recipient is not entitled, the charge being the amount received (ie, 100%). The charge is collected by assessment.

Paragraph 12 of the Schedule requires notice of liability to be given to HMRC within 90 days of Royal Assent to FA 2020, or 90 days after the date that tax became chargeable, invoking s7, Taxes Management Act 1970 (TMA 1970). Generally speaking, this means for the earlier payments that notification should have been made by 20 October 2020, as the tax is chargeable generally on receipt of the payment (para 8(4)). It would appear that a late notification penalty would now apply in most cases, even where, for example, a self-employed income support scheme (SEISS) claim had been made by a client on the mistaken understanding that they were entitled to it. Claims for the third and fourth SEISS grants would come within this provision on the date the funds are received.

It is likely that advisers will become aware of incorrect claims when preparing tax returns for 2019/20 and 2020/21. They are therefore dealing with (or will be dealing with) late notification of a liability to income tax (even when the client is a company). This means that the requirements of Professional Conduct in Relation to Taxation (PCRT) must be followed. There is specific guidance on errors by clients.

Note that failure to notify liability when there is knowledge of non-entitlement is covered by para 13. It only covers the situation where the person knew at the time the tax became chargeable that they were not entitled to the payment (ie, usually on receipt of the payment except for CJRS monies which became chargeable at some time after receipt). Paragraph 13(3) sets the degree of culpability for penalty under Sch 41, Finance Act 2008 (FA 2008) (failure to notify) as deliberate and concealed, carrying a tariff of 100%.

Where the adviser identifies an incorrect claim to a support payment during their work it is likely that the client is already potentially liable to a penalty under Sch 41, FA 2008. However, unless the failure to notify is deliberate, unprompted disclosure can reduce the penalty to 0% if notified within 12 months of the tax being chargeable, or to 10% if later than the 12-month date. This means that notification should ideally be made by voluntary disclosure before 20 October 2021 to minimise the risk of a financial penalty.

Advisers may seek to appeal the penalty on the grounds of reasonable excuse, but there is little evidence in appeal cases to suggest that ignorance of the rules will be successful. This would make correcting the omission within 12 months an important aspect of advising clients about this.

Main areas of concern

The most likely issues for those dealing with small businesses are as follows.

• For CJRS:
• Employees working during furlough – if the employer was aware at the time, then the payment was ‘not entitled’ from the start. If the employer later became aware then the payment was ‘not-entitled’ at the point the employer discovered this. HMRC would be within its rights to say that the employer should have had processes in place to ensure that instruction to not work was being adhered to other than in respect to training.
• Employers failing to pay over the full amount of the grant – which would include failing to pay the relevant pension contributions or PAYE within a ‘reasonable period’. Employers who have reached a time to pay agreement regarding payroll deductions should be covered by that agreement.
• For SEISS, claimants:
  • who ceased trading in 2019/20 or in 2020/21 before the date of the claim;
  • who incorporated their business before the date of any claim; or
  • whose businesses were unaffected by coronavirus at the relevant dates for each claim.

Tax treatment of COVID-19 grants

The tax treatment of any grants received under a coronavirus support scheme will be determined largely by the accounting treatment of the grant. Where grants are received by a business subject to income tax, the taxpayer has a choice of accounting for the grant under GAAP, or alternatively choosing to prepare accounts on a cash basis. For companies, no such choice exists; accounts and tax computations must be prepared in accordance with GAAP.

However, grants made under SEISS are treated differently. FA 2020 specifies that these grants are taxable in 2020/21 irrespective of the treatment in the accounts. This means that such grants should be deducted from the business profits in arriving at the taxable profit for the year and declared separately on the tax return. However, it is clear from Sch 16, FA 2020, that the income is still treated as income from the business and therefore is liable to Class 4 NIC. In addition, it will not be possible to elect to carry losses from the business activity back to 2019/20, leaving the SEISS payments taxable in 2020/21 – the two combined form the profit for the year.

Note that it is not possible to deduct the trading allowance from SEISS grants received, so if a business has no other income in 2020/21 then the trading allowance does not apply. If there is business activity, then the trading allowance can be deducted from the business income if desired, although many businesses may prefer to claim relief for losses where expenditure exceeds the business income, and again the trading allowance would not be relevant.

Capital allowances on cars

The 100% first year allowance available on new cars emitting no more than 50g/km comes to an end on 31 March 2021. From that date it will only be available on cars with zero emissions for a further four years. From 1 April 2021, cars emitting more than 50g/km will be added to the special rate pool rather than the main pool. The current limit is 110g/km.

It is essential to note that usually where such a change applies to both corporation tax and income tax, the date of change is flexed between 31 March / 1 April and 5 / 6 April as appropriate. However, in this case there is no flex: the date of change is strictly 31 March / 1 April.

The changes make the planning of a purchase quite sensitive in some scenarios – mainly for cars with emissions of between 50g/km and 110g/km which will move to the special rate pool. However, there may also be businesses planning to purchase a car with emissions of no more than 50g/km expecting to benefit from 100% first year allowances, so highlighting the date of change is worthwhile.

Illustration – capital allowances in a company

A car purchased in a limited company for £30,000 and run for four years, at which point it is sold for £10,000, will produce the following costs and tax deductions.

Accounts

Net cost £20,000. Depreciation £5,000 per annum for four years.

Capital allowance at 100%

Allowance £30,000 in year 1. Reduced allowances on the main pool from year 4 to reflect the disposal proceeds.

Capital allowances at 18% WDA

Allowances gained at end of year 4 – 73% of the net cost.

90% of net cost allowed for tax by year 9.

Capital allowances at 6% WDA

Allowances gained at the end of year 4 – 30% of the net cost.

90% of net cost allowed for tax by year 36.

This problem is not an issue for a sole trader or partnership, where there will normally be a private use adjustment in respect of the car. This being the case, the car is effectively ‘de-pooled’ and included in a single asset pool with a private use adjustment attached to it. On disposal of an asset in a single asset pool a balancing adjustment arises, meaning that the business element of the cost so far not claimed as a capital allowance is now available.

Additional complexity – company car benefit

2020/21 sees the start of a period of additional complexity in calculating the benefit in kind on company cars. In 2019 a new EU emissions test was implemented, known as WLTP, which stands for Worldwide Harmonised Light Vehicle Test Procedure, which is designed to more closely reflect real world driving conditions. All new cars registered from September 2018 are required to be tested against the new standard and the resulting emissions stated alongside the old (NEDC) rating, (ie, both have been shown on the certificate of conformity issued at first registration).

April 2020 saw the recognition of the new WLTP results for benefit in kind calculations for cars. So the emissions rating to be used for benefit in kind purposes for cars registered on or after 6 April 2020 is the WLTP rating. Any other ratings are ignored. Emissions ratings that are not whole numbers are to be rounded down.

The same car tested under WLTP is likely to have a higher emissions rating than when tested under NEDC, so to smooth the introduction of the new ratings, cars registered on or after 6 April 2020 have a separate table of benefit in kind rates from those registered before that date. The benefit in kind values are discounted by 2% in 2020/21 against the rates set for older cars. 2021/22 will see a discount of 1%, and from April 2022 all cars will be taxed on the same basis when the discounts are removed.

The table of benefit in kind rates for 2020/21 is as follows (for petrol vehicles):

Very low emission cars

A similar issue applies to very low emission cars (technically those with emissions of less than 75g/km) which have been taxed according to a different table. However, in this context you should also be aware that the WLTP also affects the ‘electric range’ of a car, which is reduced as against the range when tested under NEDC. So the same principle applies – cars registered on or after 6 April 2020 use a different table of values, again 2% lower than the amounts set for older cars.

The table below applies to determine the benefit in kind for 2020/21 for very low emission cars.

The electric range is the number of miles which is the equivalent of the number of kilometres specified (in an EC certificate of conformity, an EC type-approval certificate or a UK approval certificate on the basis of which a car is registered) as being the maximum distance for which the car can be driven in electric mode without recharging the battery

There were a number of changes to certain tax administration rules in FA 2020, some of which will be very relevant to smaller business clients from 2021 onwards.

HMRC preference 

Section 98, FA 2020 re-introduces Crown Preference in respect of certain tax debts. The effect of this is that HMRC no longer ranks with unsecured creditors in respect of certain tax debts (detailed below). The preference means that HMRC will rank ahead of creditors holding a floating charge over the assets of the company, in addition to unsecured creditors.

The practical impact is that clients seeking to renew lending facilities may find that their lender is seeking to reduce limits to take account of the fact that HMRC will rank ahead of them in insolvency unless they have a personal guarantee from directors (usually backed by a fixed charge over residential property). Clients where lending is supported by a floating charge over stock and other assets may find that lenders are pushing to obtain additional security in future.

Crown Preference – the extent of the preference

The taxes affected are:

• PAYE and NIC (plus student loan payments) deducted from employees
• CIS tax deducted from sub-contractors in the construction industry, and
• VAT collected on supplies made to customers.

The rules will not apply to tax debts due by the company, such as corporation tax and employer NIC. The rules apply to debts in existence at the date the company goes into insolvency proceedings, if that is on or after 1 December 2020.

How does the preference work?

For insolvencies on or after 1 December 2020, the following sets out the order of payment from the assets of the company:

Joint and several liability of directors and others

FA 2020 also includes some fairly controversial legislation designed to recover company tax debts from directors and others, normally in the event of the company becoming subject to insolvency proceedings. The new rules apply to liabilities arising on or after the date of Royal Assent to FA 2020. The provisions also apply to limited liability partnerships so that references to director, shadow director or participator are to be read as member or shadow member of the LLP.

The legislation provides for a person to be jointly and severally liable for amounts payable to HMRC by a company in certain cases. The legislation sets out the three sets of circumstances where an authorised HMRC officer may issue a ‘joint liability notice’ to an individual.

The cases are:

• tax avoidance and evasion cases;
• repeated insolvency and non-payment cases; and
• cases involving a penalty for facilitating avoidance or evasion.

The third of these is unlikely to be of practical relevance to readers, and therefore is not considered in any further detail.

Tax avoidance and evasion cases

The conditions where a notice may be issued are set out in para 2, Sch 13, FA 2020. There are five conditions, A to E, which must be met.

Condition A: the company has entered into tax-avoidance arrangements, or engaged in tax-evasive conduct.

Tax- avoidance arrangements are defined as:

• arrangements in respect of which a GAAR counteraction notice has been given;
• arrangements in respect of which a follower notice has been given and not withdrawn;
• DOTAS arrangements;
• arrangements to which HMRC have allocated a reference number under similar rules to DOTAS in respect of VAT and other indirect taxes or in respect of which the promoter must provide prescribed information;
• arrangements in relation to which a relevant tribunal order has been made (where the tribunal has ruled than an arrangement is notifiable); and
• arrangements that—
  • are substantially the same as arrangements in relation to which a relevant tribunal order has been made (whether involving the same or different parties), and
  • have as their promoter the person specified as the promoter in the application for the order.

Note therefore, that the ‘tax-avoidance arrangements’ listed here might more correctly be referred to as ‘unsuccessful’ tax-avoidance arrangements, given that a liability to tax is expected to arise as a result (see below).

Tax-evasive conduct is defined as:

• giving to HMRC any deliberately inaccurate return, claim, document or information; or
• deliberately failing to comply with an obligation to notify liability to tax, etc.

Condition B: the company is subject to an insolvency procedure, or there is a serious possibility that it will be.

The definition of this term includes the normal insolvency processes, but is extended to include a company which has been struck off the register under s1000 or s1003, Companies Act 2006 (striking of by the registrar where a company appears to be inactive, or request by the company to be struck off).

Condition C: 

• the individual concerned was responsible (alone or with others) for the company’s conduct at a time when the individual was a director, shadow director or participator in the company, or
• the individual received a benefit which, to the individual’s knowledge, arose (wholly or partly) from those arrangements or that conduct at a time when the individual was a director, shadow director or participator in the company, or
• • the individual took part in, assisted with or facilitated the conduct at a time when they were a director or shadow director of the company or were taking part in the management of the company.

This paragraph identifies those individuals who can be issued with a notice under this legislation and is extensive. It would appear that directors and shadow directors (and therefore members and shadow members of LLPs) are likely to be exposed to joint and several liability in almost any situation where the conduct set out has occurred. Participators who do not meet the test of a shadow director are unlikely to be at risk unless they know that dividends received are paid as a result of the relevant conduct, of which they have knowledge.

Condition D: there is, or is likely to be, a tax liability arising from the avoidance or evasion.

This element requires no explanation. It is referred to by the legislation as ‘the relevant tax liability’ and is the amount in respect of which a joint and several liability notice may be issued. If this has not fully been established, a further notice setting out the amount can be issued subsequently.

Condition E: there is a serious possibility some or all of that liability will not be paid.

Again, this condition does not warrant any further explanation.

When a notice is issued, the legislation sets out the content of the notice, and requirements to inform the recipient of their right to a review and right to appeal.

4.2.2 Repeated insolvency and non-payment cases

There are four conditions that must be met in repeated insolvency and non-payment cases for a notice to be issued. This set of provisions can be very confusing and is best illustrated by example.

Example

Peter is a director and the sole shareholder of Red Limited which carries on the business of fitting double glazing. Red Limited has been profitable since it was formed in 2018, but has suffered a significant downturn in business in 2020 as a result of COVID-19.

Peter has previously been a director and shareholder of Blue Limited, a company which went into insolvent liquidation in 2017. Blue Limited collapsed as a result of a bad debt on a contract to fit double glazing to an office block, when the customer went bankrupt. When Blue Limited was put into insolvency the company owed HMRC £14,000 in VAT and £4,000 in payroll taxes. The only other creditor was a supplier, who was owed £8,000.

Prior to this, Peter was a director and shareholder of Yellow Limited. Yellow Limited also carried on the business of double-glazing fitting. Peter had failed to file accounts and confirmation statement for Yellow Limited in 2016 and the company was struck off by Companies House under s1000, Companies Act 2006 in January 2017. No accounts were prepared by the company, nor was any corporation tax return filed.

So, to examine the various conditions:

Condition A: two or more companies to which the person has a relevant connection have become insolvent in a period of five years up to the date of issue of the notice, each of which had a tax liability, or had failed to make a return showing a liability.

Peter satisfies this condition, as Yellow Limited was stuck off in 2017 (note the extended definition of insolvency referred to above which includes striking off) without having made a return for corporation tax, and Blue Limited became insolvent in 2017, owing tax to HMRC.

Condition B: another company (the new company) carries on an activity which is the same as, or similar to, the activities of the insolvent companies.

Red Limited carries on the same activity as both Blue Limited and Yellow Limited.

Condition C: the person has a relevant connection to the new company at any time in the five-year period.

Relevant connection is defined as a director, shadow director or participator in relation to the two old companies, and a director, shadow director, participator or person concerned with or taking part in the management of the company in the case of the new company. As Peter is or has been a director of all three companies, this condition is met.

Condition D: at least one of the old companies has a tax liability. The total amount of tax liabilities of both old companies is at least £10,000 and is also greater than 50% of the companies’ liabilities to unsecured creditors.

Blue Limited’s liability to HMRC was £18,000 and the total amount of unsecured creditors was £26,000, of which the tax liability was 69%. Although the amount of the debt in Yellow Limited is not ascertainable now, it is likely that given these facts the condition would be met.

Even though on the face of it the conditions for HMRC to issue a notice are met, as the tax liabilities in Blue Limited and Yellow Limited predate Royal Assent, the commencement rules in s100(2) FA 2020 seem likely exclude these tax liabilities from consideration. This outcome may not be what HMRC intended by the legislation so practitioners should be aware of this issue.

The difficult trading conditions during 2020 mean that it is much more likely that client directors have overdrawn loan accounts going into 2021. Here is a recap of the tax implications and the possible solutions to this problem. Acting early to gain an understanding of the position is likely to offer better solutions to this issue than leaving it until well after the company year end, when there are fewer alternative options for a solution. Given the practical situation, it is unlikely that clients in this position have sufficient private funds to repay any loans so this option and the related anti- avoidance rules are not considered here.

Tax arising under s455, Corporation Tax Act 2010 (CTA 2010)

Once the accounts are finalised for the accounting period, an overdrawn loan account at the year-end will potentially crystallise a tax charge for the company of 32.5% of the outstanding balance. However, if the loan has been repaid (or written off) by the date that the tax is due – nine months after the year end, the tax charge is cancelled.

To the extent that any of the loan remains in existence at the nine-month point, the tax becomes due and will be repaid in a later year. It is worth noting that there is no automatic mechanism for repayment of s455 tax liabilities, which needs to be claimed using an online form – that is outside of the corporation tax return.

Therefore, when finalising the accounts you will need to consider whether the loan will be cleared by the due date for the tax in order to decide whether to provide for the tax in the tax computation. This will include careful consideration of the anti-avoidance measures designed to prevent “recycling” of loan account balances; as these only apply when cash is repaid to the company they are not considered further here.

Tax arising under s175, Income Tax (Earnings and Pensions) Act 2003 (ITEPA 2003)

Irrespective of the treatment of the loan for corporation tax, there will be a charge to income tax under the benefits code on an interest-free or low-interest loan to a director if the loan balance exceeds £10,000 at any time in the tax year. The charge is calculated at the official rate of interest which is currently 2.25% for 2020/21 and reported on form P11D.

Resolving the loan account balance

Clearing the loan with a dividend payment

It may be that during the preparation of the accounts there is an opportunity to process salary or declare a dividend that clear the loan account within the nine-month period allowed to regularise the position with regard to s455, CTA 2010. However, one of the key difficulties for clients in 2020 and 2021 is that there may be no retained profits out of which to declare a dividend.

Although the income tax treatment of the dividend is favourable compared to payment of a salary, there may be insufficient profits to support a dividend. It should be noted that for the purposes of the benefit in kind legislation, and also for disclosure purposes, these transactions are being processed in the subsequent accounting period (that is at the date the accounts are being prepared) and not backdated to the previous period.

Clearing the loan with a salary award 

The awarding of additional salary will, of course, attract a corporation tax deduction, and may be used to generate corporation tax losses. At present the available carry back for losses is only one year.

The burden of NIC will be determined by whether there is employment allowance available against which the employer secondary contributions can be set, and the extent of salary already processed which has used up the nil rate band for primary contributions.

There is little doubt that using this as a way of regularising the loan account in the subsequent period (or before the year end if considered early) is an expensive option, as the loan amount must be grossed up so that the net pay will cover the balance of the loan.

Note that if the issue of a proposed bonus is not addressed before the company year-end to create a liability of an unspecified amount to the director (with documentation) then no deduction for corporation tax will be available in that year, and the bonus will only attract corporation tax relief in the year in which the bonus is ‘paid’ – that is reported through RTI.

Pay the tax due under s455, CTA 2010.

Paying the tax due is cheaper in tax terms than paying a salary, and effectively “kicks the ball down the road” to allow for clearing the loan account at a later date when profits improve. Once the loan reduces, the s455 tax can be reclaimed, so it is not a ‘real’ tax charge, but the cash flow implications for the company may be serious in the light of the company’s financial circumstances.

Writing off the loan account 

Where it is desired to write off the loan, and this is done before the nine-month point when the s455 tax would be due, this will obviously relieve that tax at that point. Writing the loan off can be viewed as the “middle way” between salary and dividend, as the benefit of writing the loan off is taxed on the individual as a distribution (ie, at the dividend rate) but the company obtains no corporation tax deduction for the amount written off.

However, there will be a liability to NIC (both primary and secondary), which increases the cost over a dividend.

Making Tax Digital

The introduction of mandatory digital links commences in April 2021, having been deferred from April 2020. HMRC’s guidance material does provide some insight into digital links, but it is clear that some businesses still need support to ensure that their record keeping meets the requirements.

Construction industry scheme changes 

These were also deferred and come in from 1 March 2021. The changes affect suppliers within the CIS supply chain, and require that invoices raised when CIS deductions would apply are subject to a reverse charge process. So the invoice raised by the subcontractor has no VAT charged on it, and the VAT is paid over by the contractor as output tax, and also recovered on the same return.

Some accounting software is able to deal with reverse charge services, but businesses raising invoices manually may find this a difficult change to cope with.

You should also consider whether your subcontractors should register for monthly returns as many are now likely to become repayment traders.

The reverse charge does not apply on supplies to the “end user” or to private individuals.

Making Tax Digital – Phase 2

HMRC announced in July 2020 that Making Tax Digital (MTD) for VAT would be extended to all VAT registered businesses in April 2022. You will need to start thinking about how to prepare clients for that change. Around 30% of non-mandated businesses are already doing their returns through MTD.

Brexit and MOSS

Businesses making supplies of electronic services to private individuals in the EU will need to consider their next steps. After 31 December 2020 UK businesses are no longer permitted to use the UK MOSS scheme to account for EU VAT on these supplies. Affected businesses will need to register for VAT in another EU member state (probably Ireland is the easiest) and make their return through the Irish VAT authorities under what is known as the Non-Union VAT MOSS scheme. It is likely that the actual returns are very similar. It was not possible to register for the Non-Union scheme before 31 December, so this will be an important issue to tackle early in 2021.

Unfortunately, the exemption threshold of €10,000 applying to MOSS reporting now no longer applies as the UK is no longer part of the EU, so ALL supplies made electronically to customers in the EU who are not businesses now have to be reported through MOSS. It is likely that a large number of small ‘hobby’ businesses will be affected by this change. It is not clear what compliance effort will be applied to the very smallest businesses, given that any compliance activity will probably be carried out remotely from the EU member states concerned.

TAXguide 18/20 covers these changes in detail.