Taking the right steps for your business
As tax year-end approaches, it’s important for owners of small businesses to make sure they’re making the most of their allowances. We look at some strategies that will help.
AT A GLANCE
- With time running out to take advantage of the current tax year allowances, now is the time for business owners to make sure they don’t miss out on any opportunities
- The end of the 2020-21 tax year may pose some new questions, given how unusual the circumstances of the past 12 months have been
- Dividend allowances and the ability to carry forward unused annual pension allowances both offer ways to help maximise any money coming into your business
Being in control, not having to answer to a boss, choosing when and where you work and being able to follow your passion. These are just some of the reasons why people become small-business owners.
You may also have gone down that route because it’s the norm in your industry, or out of necessity – after a redundancy, for example. But whatever your reasons for striking out on your own, you’ll know that the past year has presented a unique set of challenges for small-business owners.
Different firms have had very different experiences. For some, the pandemic has created severe headwinds, while for others it has served as a powerful tailwind. “It’s tested products, services, abilities, motivation and resolve, before you even consider the personal impact,” says Melloney Underhill, Marketing Planning & Analytics Manager at St. James's Place Wealth Management.
Adjusting the lens
There’s a strong chance that your tax affairs will need to be re-evaluated if your business’s finances have been affected in any way by the events of the past year.
“You might have been doing your accounts for the past five or 10 years without much really changing,” says Underhill. “This year is likely to be different, so you can’t simply repeat what you did last
time.” Even as the situation continues to evolve, the approaching tax year-end represents an opportunity to maximise the money coming into your business or ease some of the pressures faced.
If your earnings have increased, there will almost certainly be actions you can take to either mitigate or avoid the potential tax implications. For example, if you’re a director or owner of a limited
company and you’ve made a profit during this tax year, you may be able to use dividend payments to reduce your tax bill.
The dividend allowance is currently £2,000 – you don’t have to pay tax on any dividend income within this threshold. Any dividend income above £2,000 and within the basic-rate band is taxed at 7.5%, with no employee or employer national insurance contributions. Dividends falling within the higher-rate or additional-rate bands are taxed at 32.5% and 38.1% respectively. You also need to factor in your personal allowance, which is £12,500 for the 2020/21 tax year.
Carry on benefiting
Using annual pension allowances can help too, whether your business has taken a hit during the pandemic or not.
The pension carry-forward rules allow you to claim unused annual allowances from the three previous tax years, in order to maximise your pension contributions in the current tax year. Similarly, if you’re not going to use all your allowance in the 2020-21 tax year, there is an option to carry forward any unused allowance from this year to ensure that you benefit from it over the following three tax years, rather than lose the allowance entirely.
This can work especially well for companies whose earnings change significantly from year to year. “For a director of a limited company, making a pension contribution for the current tax year and carrying forward unused allowances from the three previous tax years will usually be very tax efficient,” says Simon Martin, Chartered Financial Planner at St. James's Place Wealth Management.
“Assuming the contribution meets the ‘wholly and exclusively’ rule [whereby employer contributions are deductible as an expense provided that they are incurred wholly and exclusively for the purposes of the employer’s trade or profession], the company will receive corporation tax relief on the contribution. As the contribution is made by the business, it is not dependent upon the salary received by the director.”
There is the added benefit of the diversification that pensions provide for business owners, as they can be invested in different companies, industries and geographies.
Leaving no room for error
There can be complications to some of these measures, with small but potentially important distinctions in the rules as they apply to different types of business. It can also be very easy, especially during uncertain and testing times, to overlook certain possibilities and miss opportunities to ease your tax burden.
The only way to be sure that you make the most of your tax allowances is to work with a professional financial adviser, who can help you maximise the benefits of any money coming into your business and mitigate the effects of any losses you’ve suffered. “As part of an effective remuneration strategy, ensuring that all the available allowances and exemptions are used is an important part of reaching your goals,” says Martin.
An adviser can also build your tax situation into a wider, long-term financial plan, making sure that even during this unusually challenging period, you start 2021 by taking a step in the right direction.
The value of an investment with St. James's Place will be directly linked to the performance of the funds selected and may fall as well as rise. You may get back less than the amount invested.
The levels and bases of taxation and reliefs from taxation can change at any time. Tax relief is dependent on individual circumstances.