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What Is Corporation Tax And How Does It Affect Your Business

Corporation Tax is a vital aspect of the UK’s taxation system, generating significant revenue for the government and funding essential public services.

Corporation tax was increased from 19% to 25% effective 1 April 2023. The hike potentially means less money in companies’ coffers.

We break down the main features and rules of corporation tax, including tax periods, filing deadlines, penalties, and its impact on businesses. We also look at legitimate means to reduce your corporation tax.

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Who Pays Corporation Tax?

UK corporation tax is levied on profits earned by limited companies, corporations, and certain unincorporated associations – including clubs, societies, housing associations, and cooperatives.

Foreign companies based in the UK pay corporation tax on all their profits from the UK and offshore. If the company isn’t resident-based in the UK but has an office or branch in the jurisdiction, it only pays corporation tax on profits from its UK trading.

Sole traders and partnerships don’t pay corporation tax. Instead, they pay income tax on their profits (or share of profits) from their trading activities.

What Is The Corporation Tax Rate?

The UK corporation tax rate is currently 25%. The annual profits arising for the financial year constitute the taxable income on which HM Revenue and Customs (HMRC) expects the limited company to pay corporation tax.

There are three ‘bands’ of applicable corporation tax rates:

  • The 25% topline rate is payable by companies with taxable profits over £250,000
  • A small profits rate (SPR) of 19% will apply to companies with earnings of £50,000 or less
  • For companies with profits of £50,000 to £250,000 a marginal rate will apply. Effectively, the taxation rate will increase in increments as profits rise from £50,000 to £250,000. The idea is that these companies get some marginal relief from paying the full 25% but pay a higher rate than the small profit rate of 19%
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Corporation tax is charged based on accounting periods rather than calendar years. An accounting period can either be the company’s financial year or a portion of it if the company is newly established or changes its financial year-end.

Typically, corporation tax returns must be filed within 12 months of the end of the accounting period. For instance, if a company’s financial period runs from 1 January to 31 December, the deadline for filing the corporation tax return would be 31 December of the following year.

As part of their annual year-end corporation tax return, companies need to submit a CT600 form to HMRC. This online form will detail the company profits, total expenses, and salaries. The information is used to calculate how much corporation tax is owed.

Late submission of the company’s tax return will attract fines from £100 (applied on the first day the submission is late) to over 10% of the estimated corporation tax if the delay drags longer than 12 months.

After the submission, taxpayers have 9 months and 1 day to pay HMRC what is owed.

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How Businesses Can Legally Reduce Corporation Tax

Companies can reduce corporation tax by using allowances, deductibles, and other tax planning strategies that are permitted by HMRC. Trying to reduce tax liability by bending the rules is viewed as tax evasion and is illegal. Here are some permitted methods businesses use to lower their tax liabilities:

Claiming Appropriate Deductions: Businesses should take advantage of allowable deductions, such as operating expenses, capital allowances, and certain business-related expenditures.

Research and Development (R&D) Relief: The UK government encourages innovation by offering R&D tax relief to companies engaged in qualifying research and development activities. This relief allows companies to claim additional deductions or tax credits.

Patent Box: The Patent Box is a scheme that provides reduced corporation tax rates for profits generated from patented inventions. Qualifying companies can benefit from a lower tax rate on these profits, encouraging investment in research and intellectual property.

Group Relief: Companies operating as part of a group structure may be able to lower tax liabilities through group tax planning. This involves offsetting profits and losses within the group, allowing for a more balanced tax liability distribution.

Capital Expenditure and Investment Incentives: The tax rules permit businesses to claim capital allowances on qualifying capital expenditures such as plant and machinery, IT equipment, and business vehicles up to certain thresholds.

Utilising Losses: If a company incurs losses in a financial year, these losses can be carried forward and offset against future profits to reduce future tax liabilities.

How Does Corporation Tax Affect Your Business?

Tax is a business expense – like rent, salaries, business gas, and electricity – that reduces the company’s coffers and cash flow. This can potentially hamper its normal trading and stall investment in assets, people, advertising, products, and new markets.

Directors of a limited company with trading profits subject to a corporation tax bill should plan their finances to make provision for the payment. A tax bill can be a sizeable lump sum and the 9-month, 1-day grace period sets a firm deadline. If other rates and taxes like VAT are payable around the same time, business operations may become strained.

To cover a tax payment without compromising normal trading, there are several avenues a company can pursue:

  • Arrange a temporary overdraft increase or debtor finance facility.
  • Seek a tax-specific loan.
  • Sell an asset.
  • Chase outstanding debts, possibly offering a discount for early payments.
  • Run sales promotions.
  • The owners or directors can introduce funds/loans.
  • Defer a spending project.

If the company is struggling to pay on time it can approach HMRC to try and negotiate a manageable repayment plan. HMRC has a vested interest in seeing corporation tax paid without driving companies out of business. It is often sympathetic to legitimate cases. Interest will typically be charged on the outstanding balance so the final amount paid will be higher than the original liability.

Large companies do usually pay corporation tax in instalments.

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Corporation Tax Penalties To Avoid

Inaccurate Information: It’s vital that companies present a complete and accurate picture of their financial and trading affairs when they submit their information to HM Revenue and Customs. All calculations and claims must be accurately stated. Inaccurate information can lead to heavy fines as follows:

  • Accidental errors: Fines up to 30% of the tax bill for the period under assessment. This underlines again the importance of properly understanding corporation tax
  • Intentional inaccuracies subsequently disclosed to tax authorities can be fined up to 70% of the tax bill
  • Those deliberately trying to mislead HMRC and not coming clean can face a penalty of up to 100% of the tax amount

Late Payment: Late payment of a company’s corporation tax bill will result in interest being charged on the balance outstanding.

If corporation tax payments are not made, HMRC has several steps it can take against the company to recover the balance (plus interest) that is due:

  • HMRC could recover the money directly from the company’s bank account
  • Debt collection agencies may be put on the case
  • Company assets could be sold
  • Court proceedings may be initiated
  • HMRC could potentially liquidate the entire company and shut it down

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Frequently Asked Questions

Is Capital Gains Tax part of corporation tax?

Capital Gains Tax (CGT) is separate from corporation tax. CGT is the tax charged on the profit made when a company sells an asset. The profit relates to how much the asset increased in value since it was first acquired. Individuals are also subject to Capital Gains Tax but may pay less than companies.

Will dividends reduce your corporation tax?

If the company chooses to pay dividends the dividend amounts cannot be deducted from taxable income. Corporation tax is payable on a company’s earnings pre-dividends so disbursing dividends will not lower the tax obligation.