London-based accountant Nikhil Oza is here to help untangle your tax conundrums. Nikhil is a chartered accountant (ACA), at RDP Newmans. With over 14 years of experience, Nikhil specializes in corporate tax matters and has worked with clients of every size. In our Ask an Accountant UK series, he shares his tips on tax preparation for the self employed and small business owners.
1. Can you explain the difference between traditional accounting and cash basis accounting? How do I know which one I should use?
If you run a small business, cash basis accounting may suit you better than traditional accounting.
This is because you only need to declare money when it comes in and out of your business, i.e. cash movements, and so is much simpler to get your head around. Using cash accounting means you won’t have to pay Income Tax on money you didn’t receive in your accounting period.
But cash accounting is not ideal if you:
- Want to claim interest or bank charges of more than £500 as an expense
- Run a business that’s more complex, e.g. you have high levels of stock
- Need to get finance for your business, as a bank would want to see accounts drawn up using traditional accounting
- Have losses that you want to offset against other taxable income (‘sideways loss relief’)
Also, you cannot use cash accounting if your turnover is over £150,000 per annum. But if your business falls into this size category, it is likely you would want to engage an accountant to look after your affairs anyway, in which case they can help you with the traditional accounting method.
2. As a self-employed professional, what kind of financial records should I keep and how long do I need to keep them for?
You must keep your records for at least five years after the January 31 submission deadline of the relevant tax year. For example, if you sent your 2017-18 tax return online by January 31, 2019, you must keep your records until at least the end of January 2024.
HMRC may open an enquiry into your tax return and it is important to have complete records to show how you calculated your tax liability. They can charge a penalty if you fail to produce complete records when asked.
You’ll need to keep records/proof of:
- All sales and income (e.g. sales invoices, till rolls, and bank slips)
- All business expenses (e.g. receipts for your purchases, goods, and stock)
- Bank statements and chequebook stubs
- VAT records if you’re registered for VAT
- PAYE records if you employ people
- Records about your personal income
If you’re using traditional accounting (see above), you’ll also need to keep records of:
- What you’re owed but have not received yet
- What you’ve committed to spend but have not paid out yet, e.g. you’ve received an invoice but have not paid it yet
- The value of stock and work in progress at the end of your accounting period
- Your year-end bank balances
- How much you’ve invested in the business in the year
- How much money you’ve taken out for your own use (i.e. your drawings)
There are no rules on how you must keep records. You can keep them on paper or digitally. Your accountant should be able to help you with this if you wish.
3. Are there incentives to saving your personal receipts? What sort of records do you recommend everyone keep?
Yes, I would recommend keeping evidence of personal expenditure which may help to reduce your Income Tax liability. Of course, not everything is tax deductible, but there are a few key ones that tend to get missed out on tax returns.
A good example is charitable donations. If donating through Gift Aid, not only can the charity claim an additional amount from HMRC, but you receive Income Tax relief where you are a higher rate taxpayer (40%/45%).
You can also get tax relief on private pension contributions worth up to 100% of your annual earnings. If you are a higher rate taxpayer, you will need to claim relief on your tax return. There is an annual allowance of £40,000 above which you would need to pay tax on the contributions.
If you are employed, you can get obtain relief for professional fees you have paid relating to your job, as well as travel and subsistence costs where incurred in the course of your employment duties. The relief is appropriately reduced where your employer reimburses you for any of these costs.
For more tips, check out Ask an Accountant: Volume 1, Ask an Accountant: Volume 2, and Ask an Accountant UK.
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