>Does this make sense
I see what you say, but no it does not.
Repayment of capital is repayment of capital. It is a loan from X&Y to X's business. Now as previously related, X is X, so X has not actually lent himself some money. Y however has lent X some money. So interest could be charged on this. This interest would be tax deductible for X, and taxable on Y.
Only any point in this if Y (Mrs X, I guess) pays tax at a lower marginal rate than does X.
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Thanks M,
Though the loan could be interest free to be repayed in full within 12 months?
Or are you saying that it is only interest that can be offset against tax, not the loan itself?
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Or are you saying that it is only interest that can be offset against tax, not the loan itself?
In a nutshell, yes.
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Or are you saying that it is only interest that can be offset against tax not the loan itself? In a nutshell yes.
Thanks.
However even if the loan is interest free the need to repay it could be the difference between profit, and therefore tax liability, or loss and no tax liability - couldn't it?
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>>However even if the loan is interest free the need to repay it could be the difference
>>between profit, and therefore tax liability, or loss and no tax liability - couldn't it?
No. It may be the difference between positive cashflow, and negative cashflow. But it's just cash, not profit.
If you borrow 1,000 from the bank, you don't get taxed on it as profit... so if you repay 1,000 that you borrowed from the bank (or from Y) you don't get tax relief on the payment.
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If you borrow 1 000 from the bank you don't get taxed on it as profit... so if you repay 1 000 that you borrowed from the bank (or from Y) you don't get tax relief on the payment.
Thanks again M, I see what you mean however say you generate, £1000 profit, this is taxable, if this is then used to repay a £1000 loan then there is no taxable profit?
I am not saying that you should get tax relief on the payment, rather that the need to repay the loan as a cost to the business effects the taxable profit - surely?
Thanks.
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>>I am not saying that you should get tax relief on the payment, rather that the need
>>to repay the loan as a cost to the business affects the taxable profit - surely?
It's the same thing. If it affects the taxable profit, then you're getting tax relief!
I think it's time you found yourself an accountant to prepare your tax returns. It will save you money
In your scenario: you borrow £1,000 from the bank; you buy £1,000 of widgets which you sell for £2,000. Clearly you have a profit of £1,000 - but cash of £2,000.
So if you repay the bank the £1,000 they lent to you, what is your taxable profit?
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>>I am not saying that you should get tax relief on the payment rather that the need to repay the loan as a cost to the business affects the taxable profit - surely? It's the same thing. If it affects the taxable profit then you're getting tax relief!
That's fine, as kinda I thought then, thanks.
In your scenario .... So if you repay the bank the £1,000 they lent to you, what is your taxable profit?
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£1000.
So if you start of with £1000 capital and borrow £1000 from the bank, you then buy £1000 of widget material and £1000 on a widget maker* and sell widgets for £3000. You have a profit of £1000. If you then have to repay the £1000 borrowed you have £0 profit ?
*I know about Capital Allowances, it is the effect of the loan repayment that is the confusion. If it is loan interest being repaid it sits under Expenses in P&L and the loan capital sits as a Liability though if it is the loan capital that is repaid then does that sit in Expences or the Capital Account? Cant see how it can be the latter using previous scenarios.
Thanks again :)
PS: Re accountant, I have had conflicting advice, interesting to get other views. much appreciated.
Edited by cheddar on 14/08/2008 at 18:58
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cheddar,
Instead of thinking of Capital in £, use some imaginary means, call it wonga or whatever you like. The wonga is there to enable you to spend £ and earn £.
If you have to pay £ interest to borrow that wonga, the £ interest is a cost to the business.
If the wonga is an interest free loan, there is no cost.
At some point you just pay back the wonga to whoever gave it to you.
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Thanks jbif, I understand the principals though it does not - quite - address the question:
To put it another way:
Very simplistically - say the bank balance is 1000 comprising the nett profit of 1000, then the loan capital of 1000 is repaid from the bank balance taking it to zero.
Is the nett profit then still declared as 1000 despite the current assets being zero ?
Thanks.
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>>PS: Re accountant, I have had conflicting advice, interesting to get other views. much appreciated.
You are working yourself into a state of confusion. That's why I think you should employ one for the first year. Following that you can follow what he did.
>>£1,000
Yes, indeed!
>>In your scenario
"you have £0 profit".
[Forget capital allowances and depreciation for a moment; but see below.]
NO! It is correct to say that you have £0 CASH. But you do have profit of £1,000 - which is tied up in your widget maker.
To think of it another way, when you started out, you had £1,000 cash. Now you have £1,000 cash and a WIDGET MAKER. This latter represents your profit.
So of course you have to pay tax on your profit. As Mr Darling doesn't really want 20% of a widget maker, he charges you £200.
Next year when you buy £1,000 of widget material, you won't have to buy a widget maker, so the £1,000 profit will be pure profit to spend on wine, women and £200 tax (plus the £200 tax arising from the previous year, which you had to borrow from the bank).
_____________________________________________________
Now, your widget maker has a life of 5 years. So you need to allocate depreciation of £200 per annum to your profits. This is just an accounting trick, as it allows you to say to your wife, "darling, I actually only made £800... because I have to allow for the cost of the widget maker, so you can only spend £800 on handbags"
Equally, Mr Darling is happy to give you tax relief on the cost of the widget maker. He does this by allowing you a 20% per annum deduction for tax purposes on a reducing balance basis. Simpler than it sounds.
Year 1. Cost 1,000; 20% = £200; remaining balance £800
Year 2. Opening balance £800; 20% = £160 relieved against profits for tax; remaining balance £640.
Year 3. Opening balance £640; 20% = £128 relieved against profits for tax... etc. etc.
However... under new rules, because you are spending under £50,000 on your widget maker, you in fact get 100% tax relief in the first year.
THEREFORE, in fact, YES! You do indeed pay no tax in your first year, for your tax computation looks like this:
1,000 Profit before depreciation
(1,000) Capital allowances
nil Taxable profit.
HTH
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Thanks M, all very helpful.
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