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The rules for deciding what business expenses can be deducted from profit for tax purposes are similar whether you trade through a limited company or as a sole trader or partnership.
The importance of claiming all your allowable business expense deductions can make a significant difference to your bottom line.
For a limited company, the general rule is that expenses must be “wholly, exclusively and necessary” incurred for the job. Whilst for the self-employed, the rule is that any expenses must be "wholly and exclusively" for business purposes.
When a limited company claims allowable expenses, they will reduce their profit which in turn reduces its Corporation Tax liability and payments.
Expenses which have a personal and business element are not generally allowable. Entertainment expenses cannot be used to reduce Corporation Tax but they are usually a legitimate business expense.
We have listed below some interesting categories of business expenses:
Business travel and subsistence
You can claim tax relief on accommodation and other travel expenses used when travelling for business related purposes. This also includes subsistence whilst travelling including meals and any other necessary costs of travelling, for example parking charges, tolls, congestion charges or business phone calls. General subsistence allowable costs relate to the distance that you travel away from your home or usual place of business. This can be as much as five miles. Also if you have an exceptionally early or late start to your day then breakfast and dinner costs can be allowable.
Business entertainment is defined by HMRC as any form of free or subsidised entertainment or hospitality. This means that no tax relief is usually available to claim expenses incurred in relation to business entertainment.
Business entertainment expenses include items paid for clients, suppliers or staff like:
- food and drink
- accommodation (e.g. hotels)
- theatre and concert tickets
- sporting events and facilities
- entry to clubs and nightclubs
- use of capital assets such as yachts and aircraft
- payments made to third party business entertainment organisers
- free samples
- business gifts
- the provision of entertainment or hospitality solely for the directors or partners of a business.
Expenses covered by an exemption
Some business expenses and benefits are covered by exemptions (which have replaced dispensations). This means you do not have to include benefits like business travel, phone bills, business entertainment expenses, uniform and tools for work in your end-of-year reports.
To qualify for an exemption, you must either be paying a flat rate to your employee as part of their earnings - this must be either a benchmark rate or a special rate approved by HMRC or paying back the employee’s actual costs.
If you do not have an exemption, you must report the cost on form P11D. You do not need to submit a P11D form for an employee if you are paying tax on all their benefits through your payroll, known as payrolling.
All companies and organisations subject to Corporation Tax must keep proper business records. This includes keeping accurate records of all expenses. For example, in order to claim business mileage, the full details of all journeys and the mileage covered must be held. For tax purposes, the records must be held for at least 6 years from the end of the relevant accounting period.
VAT on business expenses
There are special VAT rules which determine the VAT recoverability on many regular expenses incurred by businesses which we consider below. Interestingly, although the VAT rules normally prevent businesses reclaiming VAT on supplies that are not made directly to the business, there are certain circumstances when the VAT rules are relaxed for expenses incurred by employees for business purposes.
Reimbursing expenses for home office equipment
The guidance for reimbursing expenses for employers who have employees working from home due to the COVID-19 outbreak has been updated. This could be a result of the workplace being closed or because employees are following government advice to self-isolate.
The updated guidance reflects temporary changes to the rules for reimbursing employees for the purchase of office equipment whilst working from home. This temporary measure means that employer reimbursements for the cost of home-office equipment expenses will be exempt from tax and NICs.
The expenditure must meet the following two conditions to be eligible for relief:
- That equipment is obtained for the sole purpose of enabling the employee to work from home as a result of the coronavirus outbreak, and
- The provision of the equipment would have been exempt from Income Tax if it had been provided directly to the employee by or on behalf of the employer (under section 316 of ITEPA).
The exemption is a temporary measure and has effect until the 5 April 2021.
Sole traders can claim back any expenses they have incurred that relate directly to their business in much the same way as limited companies. As mentioned above, the expenses must be ‘wholly and exclusively’ incurred in the performance of their duties.
The self-employed can claim tax relief for allowable expenses incurred as part of running their business. The costs of allowable expenses will be deducted from taxable profit. HMRC’s guidance is clear that allowable expenses do not include money taken from your business to pay for private purchases.
Costs you can claim as allowable expenses include:
- office costs, for example stationery or phone bills
- travel costs, for example fuel, parking, train or bus fares
- clothing expenses, for example uniforms
- staff costs, for example salaries or subcontractor costs
- things you buy to sell on, for example stock or raw materials
- financial costs, for example insurance or bank charges
- costs of your business premises, for example heating, lighting, business rates
- advertising or marketing, for example website costs
- training courses related to your business, for example refresher courses
It is important to note that not all expenses in these categories will always be allowable. HMRC will normally allow your claim if you meet the qualifying conditions for the expense. If there is an expense that is for personal and business reasons, then only the business element of the claim is allowable.
HMRC provides the following example - your mobile phone bill for the year totals £200. Of this, you spend £130 on personal calls and £70 on business. You can only claim for £70 of business expenses.
Sole traders who work for home can also claim the business proportion of their expenses for costs incurred in running their home, such as heating and electricity.
If you are self-employed and running a business from your home, there are some simplified expense rules available for claiming a fixed rate deduction for certain expenses where there is a mix of business and private use. The simplified expenses rules are not available to limited companies or business partnerships involving a limited company.
The use of flat rate expenses for core business activities carried out from the home saves having to calculate the proportion of personal and business use for certain bills in the home. Usually, this applies to various utility bills. Instead a monthly deduction is allowable. The use of the simplified expenses regime is optional, and businesses can instead claim the trade proportion of actual costs.
The current monthly rates are based on the amount of business use of the home as follows:
- 25 or more hours worked per month can claim £10.00
- 51 or more hours worked per month can claim £18.00
- 101 or more hours worked per month can claim £26.00
The minimum number of hours worked in any month must be 25 hours. The flat rate doesn’t include telephone or internet expenses and the business proportion of these bills can be claimed by working out the actual costs. In addition, use of the flat-rate deduction for household running costs does not prohibit a separate proportional deduction for fixed costs such as council tax, insurance and mortgage interest.
If you have any questions about the issues raised in this article, we at Key Business Consultants have a team of expert accountants who can help. Get in touch with us today or call us directly on 02037 282 848.