Inheritance tax is often described as a voluntary tax. While most of us do not know in advance when we are going to die, there are steps that you can take to reduce the amount of inheritance tax on your estate. Here are five suggestions.

1. Leave everything to your spouse or civil partner

The inter-spouse exemption means that there is no inheritance tax to pay on anything that you leave to your spouse or civil partner. On their death, their estate can claim the unused portion of your nil rate band and your residence nil rate band, meaning that these are not wasted. The allowances allow a married couple or civil partners to, between them, leave £1 million free of inheritance tax.

Alternatively, you can leave assets to the value of your nil rate band, and a main residence or share in a main residence to your children or direct descendants, and anything in excess of this to your spouse or civil partner. This too will ensure that there is no inheritance tax to pay on your estate.

2. Give away cash and assets early

Gifts made more than seven years before your death fall out of charge for inheritance tax purposes. Also, taper relief means that the rate of tax payable  on assets gifted made more than three years before your death is reduced on a sliding scale. Lifetime gifts are known as potentially exempt transfers and remain exempt if you survive for at least seven years after making the gift. However, if you do die within seven years, lifetime gifts come into charge. This may give rise to an unintended problem in that the nil rate band is applied chronologically, meaning that it may shelter a lifetime gift which would, if taxable, benefit from generous taper relief, rather than a death bequest which is chargeable at 40%.

The earlier gifts are made, the greater the likelihood that they will fall out of charge.

3. Make gifts out of income

An inheritance tax exemption means that it is possible to make lifetime gifts which are not treated as potentially exempt transfers by making them out of your income. To benefit from the exemption, the gift must be made as part of the normal expenditure from the income of the donor and, after making the gift, the donor must be able to maintain their standard of living. This exemption could be used, for example, to pay for your grandchildren’s school fees or your child’s rent  or to set up a regular standing order to help meet your children’s living costs.

4. Use the annual and gifts exemptions

There are a number of specific inheritance tax exemptions that allow you to make small gifts that fall outside the scope of inheritance tax. These exemptions can be used in addition to the gifts from income exemption outlined above. Further, they apply if the gifts are made from capital.

The annual exemption allows you to give away £3,000 of gifts each year. You can use the allowance to make a single gift to one person, or several gifts totalling not more than £3,000. If you do not use all of the exemption for a tax year, you can carry the unused portion forward to the following tax year. However, if it is not used by the end of that tax year, it is lost.

The small gifts allowance allows you to make as many gifts as possible of up to £250 per person each tax year. However, the recipient cannot benefit from more than one allowance (so you cannot give £3,250 to one person using the annual allowance and the small gift allowance). You do not need to count birthday and Christmas gifts, which are exempt.

You can also make tax free gifts on the occasion of a wedding or civil partnership. The exempt amount depends on your relationship to the recipient – £5,000 for a child, £2,500 for a grandchild or great-grandchild and £1,000 for any other person.

5. Make a charitable bequest

Your estate can benefit from a reduced rate of inheritance tax of 36% if you leave at least 10% of your estate to charity. Gifts to charities are themselves exempt from inheritance tax.

If you are an employer, it is beneficial for both you and your employees if your workforce is healthy. Consequently, you may want to offer benefits to help employees spot any issues early and get back to full health.

While the provision of private medical insurance (other than for employees working overseas) is a taxable benefit, the tax system contains a number of health-related exemptions.

Health screening and medical check-ups

Employees can be provided with one health-screening and one medical check-up each tax year without triggering a tax charge under the benefit-in-kind legislation. For these purposes, a health screening assessment is an assessment to identify an employer who may be at a particular risk of ill-health, whereas a medical check-up is a physical examination of the employee by a health professional for the sole purpose of determining the employee’s state of health.

The provision of additional health screenings and/or medical check-ups in the same tax year are taxable and must be notified to HMRC on the employee’s P11D.

Recommended medical treatment

While there is no general tax exemption for employer-funded medical treatment, there is a dedicated exemption for medical treatment that meets the definition of ‘recommended medical treatment’ which is provided or paid for by the employer. This is treatment recommended by a health professional as part of occupational health services provided to the employee to help the employee retain employment or is provided to assist the employee in returning to work after a period of absence due to injury or ill health (such as physiotherapy to help the employee return to work after a back injury).

The exemption is capped at £500 per tax year. Where the cost of the treatment is more than this, the employee is taxed on the excess over £500.

Overseas medical treatment and insurance

A tax liability arises in respect of the provision of medical treatment, other than recommended medical treatment, provided to UK-based employees. However, there is no tax liability where an employer provides medical treatment outside the UK and the need for the treatment arose while the employee was overseas for the purpose of performing the duties of the employment. The exemption extends to the provision of insurance against the cost of providing such treatment.

Eye tests and glasses

Where an employer is required by regulations made under the Health and Safety at Work Act 1974 to provide an employee with an eye test, no tax liability arises in respect of that test. If the test shows glasses and contact lenses are needed, the provision of these are also tax-free. However, the exemption is conditional on the access to tests and the provision of corrective appliances to those who need them is available to all employees to whom such tests must be provided.

Inflation is at a ten-year high and the ensuing cost of living crisis means that many people may be struggling to pay the tax that they owe. If this is you, what can you do about it?

While it may be tempting to bury your head in the sand and hope that the bill will magically disappear, this is a really bad idea. Ignoring the problem will in this instance make it worse; HMRC will eventually want their money and have a range of tools available to them to help them achieve this.

It is far better to take control of the situation. Rather than having to pay everything in one go, you may be able to pay in manageable instalments.

Set up an online plan

If you are struggling to pay a self-assessment tax bill you may be able to set up an instalment plan (known as a Time to Pay arrangement) online. To do this, you will need to log in to your Government Gateway account.

A Time to Pay agreement can be set up online if:

• you have filed your latest tax return;
• you owe less than £30,000;
• you are within 60 days of the payment deadline; and
• you plan to pay your debt off within the next 12 months or less.

Call HMRC

If you are not able to set up an instalment payment plan online, for example, because you owe tax of more than £30,000 or need longer to pay, you can call HMRC’s Self-Assessment helpline to see if you are able to agree one over the phone. The Self-Assessment Payment Helpline number is 0300 200 3822. The helpline is open from 8a.m. to 6p.m. from Monday to Friday.

Information required

You will need certain information to set up a Time to Pay arrangement, including:

• your unique tax reference (UTR) number;
• your bank account details; and
• details of any payments you have missed.

HMRC will ask you whether you can pay in full (if you can, they will expect that you do), how much you can repay each month, if you owe other taxes, how much you earn, what your monthly outgoings are and what savings and investments you have. If you have assets or savings, HMRC expect that you will use these to pay any tax that you owe.

Stick to the plan

Once you have agreed a Time to Pay arrangement, it is important that you make the payments in accordance with the plan, If you miss a payment HMRC will normally contact you to find out why, and where possible will restore the plan. However, if you continue to fault, HMRC will seek to collect the debt in full.

If further tax liabilities arise that you cannot pay, it may be possible to amend the plan to include these.

Bad debts are a fact of business life and most businesses will suffer a bad debt from time to time. This may be because the customer goes out of business after the work has been done or the goods have been supplied, or runs into financial difficulty resulting in them defaulting on the debt. Unfortunately, sometimes the customer may just not pay and refuse all attempts to recover it.

While there are actions that the business can take to recover the debt (such as making a claim using the Money Claim Online service), there is no guarantee that these will work, and the business may simply have to accept that the debt has gone bad.

Having suffered a bad debt, it would be adding insult to injury if the business had to pay tax on income that had not actually received. Fortunately, the tax system offers some relief for bad debts.

The way in which relief is given depends on whether the accounts are prepared under the cash basis or the accruals basis.

Cash basis

One of the advantages of the cash basis is that it provides automatic relief for bad debts. Under the cash basis, income is not recognised until it is received, so if an invoice is not paid, it is not taken into account when calculating taxable profits. Consequently, there is no need for special rules to deal with bad debts.

Traders with cash basis receipts of £150,000 or less can elect to use the cash basis. It is the default basis for landlords with rental cash basis receipts of £150,000 or less, and landlords not wishing to use the cash basis must elect for the accruals basis to apply. Companies cannot use the cash basis to prepare their accounts.

Accruals basis

Under the accruals basis, income must be recognised when earned. This means that if work is undertaken, the associated income is taken into account when the work is done not when the invoice is paid. Consequently, the invoiced amount will be reflected in the calculation of taxable profit, regardless of whether it has been paid. The amount owing will show in the balance sheet as a debtor of the business.

Normally, a deduction is not allowed for a debt owed to a business in computing the taxable profit. However, an exception is made for a bad debt and for a doubtful debt to the extent that it is estimated to be bad. This will be the total amount of the debt less any amount that the business may reasonably expect to receive.

Where a debt is bad or doubtful, a deduction can be made in the period in which the debt became bad or doubtful. This may not necessarily be the same period as when the income is taxed if at that point it was expected that the debt would be paid.

Example

ABC Ltd prepares accounts to 31 March each year. As a company, it prepares accounts using the accruals basis.

On 21 March 2022 it invoices a customer for £3,000.

The invoice is taken into account in calculating the taxable profit for the year to 31 March 2022.

In July 2022, the customer went into liquidation without paying the debt. Recovery looks very unlikely.

Tax relief is given in the form of a deduction of £3,000 when calculating the profit for the year to 31 March 2023 as this is the period in which the debt went bad.

The registrar of companies has the power to strike a company off a register if the registrar has reasonable cause to believe that the company is no longer carrying on a business or is in operation. This may be the case if the company has failed to file its annual accounts or its annual confirmation statement, there is no director in place or mail sent to the company is returned unopened.

However, before the registrar can move to strike the company off, he or she must first send two letters to the company. If a response is not received from the company within one month of sending the first letter, the registrar must (within 14 days of the end of the expiration of that month) send a second letter by registered post. The second letter must refer to the first letter and state that an answer to that letter has not been received and also that if an answer is not received to the second letter within one month of the date on the letter, a notice will be placed in the Gazette with a view to striking the company’s name off the registrar. If letters are received, they should not be ignored; rather, they should be dealt with promptly.

In the event that no answer is received to the second letter within a month of the date of that letter and the registrar has not received evidence that the company remains in business, the registrar will place a first notice in the Gazette that unless evidence is received to show that the business is still in operation, it will be struck off the register two months after the date of the notice.

Object

An objection to the proposed striking off can be made after the notice has been placed in the Gazette. An objection can be made by a director or a shareholder, or another interested party, such as a supplier or a customer. The objection can be made by email (enquiries@companieshouse.gov.uk).

When making an objection, it is necessary to provide evidence that the company is still trading, is owed money or owes money. The evidence may be in the form of customer or supplier invoices or statements or company bank statements. If the striking off application has been made because the company has failed to file its accounts or its confirmation statement, the outstanding documents should also be filed.

The objection must be made at least two weeks before the expiry of the Gazette notice (which is two months from the date of publication of the notice).

If the objection is successful, the registrar will discontinue the strike and file form DISS40, Striking off action discontinued.

Company struck off

If no objection is made by the expiry of the first notice, a second notice will be posted in the Gazette, stating that the company has been struck off. It will be dissolved on the publication of this notice.

Capital allowances are a mechanism for providing tax relief for capital expenditure.

Relief is generally given in the form of a writing down allowance, although a first year allowance is available for expenditure on new and unused zero-emission cars. Expenditure on cars does not qualify for the annual investment allowance or for the time-limited super-deduction or 50% first-year allowance available to companies. Capital allowances cannot be claimed where the simplified expenses system is used to pay mileage allowances.

Capital allowances for cars can be claimed by both unincorporated businesses and companies. They can also be claimed where the cash basis is used as expenditure on cars cannot be deducted under the cash basis capital expenditure rules.

First-year allowance

A 100% first-year allowance is available for expenditure on new and unused zero-emission cars. This means that the cost can be deducted in full in computing taxable profits in the period in which the expenditure is incurred.

The first-year allowance is only available for new cars; second-hand zero-emission cars only qualify for a writing down allowance.

A balancing charge, equal to the sale proceeds, will arise if the car is sold.

Writing down allowances

There are two rates of writing down allowance – the main rate and the special rate. The available rate depends on the car’s CO2 emissions and the date on which the expenditure was incurred.

New and used cars purchased on or after 6 April 2021 which have CO2 emissions of 50g/km or less (other than new electric cars qualifying for a 100% first-year allowance) are added to the main rate pool and receive main rate allowances at the rate of 18% on a reducing balance basis.

Cars purchased on or after 6 April 2021 with CO2 emissions in excess of 50g/km must be added to the special rate pool. They attract special rate writing down allowances of 6% on a reducing balance basis.

If the car is sold, the sale proceeds must be added to the relevant pool. This ensures that capital allowances are given for the difference between the cost and the proceeds over the life of the car.

Private use

If a sole trader or partner uses a car partly for business and partly for private use, capital allowances are proportionately reduced to reflect the private use. Cars used for business and private use have their own pool rather than being added to the main rate or special rate pool.

Employees

Employees are not able to claim capital allowances for cars, even if they use them for business. The approved mileage rates (which may be paid tax-free up to the approved amount) provide an element to cover depreciation.

For inheritance tax (IHT), there are potentially two nil rate bands available. The first – the nil rate band – is available to everyone and is set at £325,000 until 5 April 2026. An estate does not have to pay any IHT up to this amount.

The second nil rate band is the residence nil rate band (RNRB). This is available where the main residence is left to a direct descendant, such as a child or grandchild. The RNRB is set at £175,000 until 5 April 2026. However, unlike the nil rate band, the RNRB is tapered where the value of the estate is more than £2 million. The RNRB is reduced by £1 for every £2 by which the value of the estate exceeds £2 million, meaning that it is not available to estates valued at £2.35 million and above.

Spouses and civil partners

An IHT inter-spouse exemption means that no IHT is payable on anything that a person leaves to their spouse or civil partner.

Each spouse/civil partner has their own nil rate band and RNRB for IHT purposes. The IHT rules also allow any portion of the nil rate band or RNRB which is not used on the death of the first spouse/civil partner to be transferred to the surviving spouse/civil partner and claimed by their executors on their death. This is useful where a couple wish to leave their estate to their surviving spouse/civil partner in the first instance and to their children following the surviving spouse/civil partner’s death, but do not want to waste their nil rate bands.

Transferring the nil rate band

The percentage of the nil rate band that was not used when the first spouse/civil partner died can be used by the surviving spouse/civil partner’s estate as long as:

• the couple were married or in a civil partnership when the first death occurred; and
• the unused nil rate band is claimed within two years of the death of the surviving spouse or civil partner.

It is important to note that it is the unused percentage of the nil rate band that is transferred, not the absolute amount. This provides an automatic adjustment if the nil rate band changes between the first death and the second death.

The way in which the claim is made depends on whether a full IHT return (IHT400) is needed. If a full return is required, the claim should be made on form IHT402, which should be sent to HMRC with the IHT400 (and any other forms that are required). The IHT400 should be sent to HMRC within 12 months of the date of death.

If the death occurred after 1 January 2022 and the estate is an excepted estate, the transferable nil rate band can be claimed when applying for probate.

Transferring the unused RNRB

As with the nil rate band, the unused percentage of the RNRB is available on the estate of the surviving spouse or civil partner. Again, this must be claimed. This is done on form IHT435 which should be sent to HMRC with the IHT400.

Example

Polly died in June 2017 leaving her estate valued at £600,000 to her husband Paul. At the time of her death, the nil rate band was £325,000 and the RNRB was £100,000.

Paul dies in May 2022. He leaves his entire estate, valued at £1.4 million to his daughter Poppy. In addition to his nil rate band of £325,000 and his residence nil rate band of £175,000 his estate is able to claim the unused portion of Polly’s nil rate band and RNRB, which is 100% in each case. Consequently, Paul’s estate is able to benefit from a further nil rate band of £325,000 and a further residence nil rate band of £175,000. As it is the unused percentage that is transferred, Paul’s estate benefits from 100% of the RNRB at its value of the time of his death (i.e. £175,000), rather than the absolute value of the RNRB at the time of Polly’s death (i.e. £100,000). Consequently, IHT is only payable to the extent that the value of his estate exceeds £1m (2x £325,000 + 2 x £175,000).

No-one wants to pay more tax than they need to. Consequently, it is important to keep good records of business expenses so that deductible expenses are not overlooked.

General rule

The basic rule is that a deduction is allowed for expenses incurred wholly and exclusively for the purpose of the trade, profession or vocation. Unlike the equivalent rule for employment expenses, there is no requirement that the expense is ‘necessarily’ incurred. This means that as long as an expense is incurred for the purposes of the business and only for that purpose, a deduction is given.

Private expenses are not deductible

No deduction is given for private expenditure and under no circumstances should private items be `put through the business’. It is good practice to keep private and business expenditure separate and to have a separate bank account for business expenses. If you run your business as a limited company, the company should have its own bank account.

Mixed use expenses

If you incur an expense for both business and private purposes, you can deduct the private element if this can be separately identified. This may be the case if you use a phone for business and private calls. Any apportionment should be on a just and reasonable basis. If you cannot separate out the private use and the expense has a dual purposes (such as work clothes which also provide warmth and decency), the expense should not be deducted.

No deduction for drawings

If you operate your business as a sole trader or other unincorporated business and you pay yourself a salary or take drawings from the business, you cannot deduct these when working out your profit. You pay tax on your profit and are free to use the profits as you please. However, if you operate as a personal or family company, you can deduct any salary that you pay yourself (together with any employer’s National Insurance and employer pension contributions).

Capital expenditure

Capital expenditure can only be deducted in computing profits if you use the cash basis and the expenditure can be deducted under the cash basis capital expenditure rules. You cannot deduct capital expenditure if you prepare accounts under the accruals basis.

Common deductible expenses

The actual expenses that can be deducted will vary from business to business – what is important is that they are incurred wholly and exclusively for the purpose of the business. However, the following are example of common deductible business expenses.

1. Cost of goods sold, such as raw materials and goods brought for resale.
2. Distribution and packaging costs.
3. Office expenses, such as stationery and printing costs and phone bills.
4. Travel and subsistence expenses, such as fuel parking and fares for using public transport and hotel bills for overnight business trips.
5. Motor expenses, such as car insurance, MOTs and repairs.
6. Staff costs, such as wages, salaries, employer’s National Insurance and pension costs.
7. Rent and rates.
8. Gas, electricity and water bills.
9. Repairs to business expenses.
10. Advertising and promotion costs.
11. Bank interest and other finance costs.
12. Accountancy, legal and other professional costs.
13. Uniforms (but not general clothing even if only worn for work).

Non-deductible expenses

A deduction for certain expenses is expressly prohibited. This includes the cost of business entertaining, which if deducted in computing accounting profit must be added back to arrive at taxable profit. Likewise, depreciation (an accounting concept) is not deductible in arriving at taxable profit; instead relief is given in the form of capital allowances.

If their profits are high enough, the self-employed pay two classes of National Insurance contribution – Class 2 and Class 4.

Class 2 contributions are flat rate contributions of £3.15 per week for 2022/23. It is the payment of Class 2 contributions that enables a self-employed earner to build up entitlement to the state pension and certain other contributory benefits. Class 4 contributions are payable on profits in excess of the lower profits limit, but do not garner any pension or benefit entitlement.

Lower profits limit for Class 4

The lower profits limit for Class 4 contributions is aligned with the primary threshold for Class 1 National Insurance contributions. This is set at £190 per week for the period from 6 April 2022 to 5 July 2022 (equivalent to £9,880 per year), rising to £242 per week (equivalent to £12,570 per year and aligned with the personal allowance) from 6 July 2022. The annualised primary threshold is £11,908. Consequently, the lower profits limit for Class 4 is set at £11,908 for 2022/23.

Class 4 contributions are payable at the main rate, which is 10.25% for 2022/23, on profits between the lower profits limit and the upper profits limit, which at £50,270 is aligned with the upper earnings limit for Class 1 contributions. Any profits in excess of the upper profits limit attract Class 4 contributions at the additional Class 4 rate, set at 3.25% for 2022/23.

Higher starting point for Class 2

Historically, a liability to Class 2 contributions has arisen where profits exceed the small profits threshold, which for 2022/23 is set at £6,725. However, the starting point for Class 2 contribution is to be increased with retrospective effect from 6 April 2022 to align it with the starting point for Class 4 contributions. For 2022/23, this is £11,908.

As Class 2 contributions earn entitlement to the state pension, self-employed earners who have profits between the small profits threshold, set at £6,725 for 2022/23, and the new starting limit of £11,908 will be treated as if they had paid a Class 2 contribution. This means they get the benefit of having paid a Class 2 contribution, but for zero contribution cost. This move brings the position of the self-employed with low profits broadly into line with that for employed earners with low earnings who are treated as having paid Class 1 contributions at a notional zero rate on earnings between the lower earnings limit (£6,396 for 2022/23) and the primary threshold (£11,908 for 2022/23).

Self-employed earners with profits below the small profits threshold can opt to pay Class 2 contributions voluntarily to maintain their contribution record. At £3.15 per week for 2022/23, this is a much cheaper option that paying voluntary Class 3 contributions, which are set at £15.85 for 2022/23.

Looking ahead

The Class 4 rates were increased by 1.25 percentage points for 2022/23 only pending the introduction of the Health and Social Care Levy. The rates are due to revert to 9% (main rate) and 2% (additional rate) from 2023/24. However, the self-employed will also have to pay the Health and Social Care Levy of 1.25% on profits in excess of the lower profits limit from 2023/24, so the total hit remains the same in 2023/24 as in 2022/23. However, unlike Class 4 contributions, liability to the Health and Social Care Levy remains beyond state pension age.

The flat rate scheme offers VAT registered traders who meet the eligibility conditions a simpler way to work out the VAT that they need to pay over to HMRC. However, while it may save work, it may also cost more than working out VAT in the traditional way.

Nature of the scheme

Under the scheme, traders pay a percentage of their VAT-inclusive turnover over to HMRC, rather than working out the difference between their output VAT and their input VAT. The percentage that they pay is set by HMRC and depends on the business sector in which they operate.

Eligibility

The scheme is only open to VAT-registered businesses which expect their annual VAT taxable turnover to be £150,000 or less. This is the total of everything that they sell that is not exempt from VAT, and is exclusive of VAT. A trader cannot re-join the scheme if they have left it in the previous 12 months.

Once in the scheme, a trader can remain  unless their turnover in the last 12 months was more than £230,000 including VAT, or they expect their turnover in the next 30 days alone to be more than £230,000 (including VAT). If this is the case, the trader must leave the flat rate scheme and work out VAT due to HMRC in the usual way.

Advantages

The main advantage of the scheme is that it is simple and that it saves work. There is no need to keep detailed records, particularly of VAT on purchases and expenses. The VAT that is paid over to HMRC is simply the flat rate percentage multiplied by the VAT-inclusive turnover in the period. The scheme may also save money if the VAT due at the flat rate is less than that using the traditional calculation.

Disadvantages

The main disadvantage is that more VAT may be payable to HMRC than if VAT is calculated in the traditional way. This will be the case if the amount determined using the flat rate percentage is more than the difference between output VAT and input VAT in the period. Much will depend on whether the traders input VAT is covered by the margin allowed by the flat rate percentage.

The scheme can be particularly costly for limited cost businesses. These are business where goods are less than either 2% of turnover or £1,000 a year (£250 per quarter). Limited cost businesses must use a higher rate of 16.5% to work out the VAT that they pay over to HMRC, regardless of the sector in which they operate.

The rules can operate harshly for limited cost businesses. In deciding whether a business is a limited cost business, no account is taken of spending on services on which VAT is incurred. The flat rate percentage for limited cost businesses of 16.5% of VAT-inclusive turnover is equivalent to 19.8% of net turnover, leaving little margin for input VAT recovery as 99% of the VAT charged at 20% must be paid over to HMRC. This may be problematic for a business that spends little on goods but which incurs significant VAT on services and items such as fuel and promotional items, which are excluded from the calculation. Where this is the case, the trader may pay much more VAT over to HMRC than under traditional VAT accounting.

Do the sums

In order to decide whether the time savings offered by the VAT Flat Rate Scheme are worthwhile, there is no substitute for doing the sums.