Business Planning: Taxation

Tutorial 3

Question 1

Mark Anthony has built up a successful unincorporated business as a car dealer. You work for a
firm of ICAEW Chartered Accountants, who act as Mark's tax advisers and you are the tax adviser
assigned to his affairs.

Background information

Mark is a widower and he has two grown up children; Dane (aged 30) and Maggie (aged 32). Both
children work full-time for Mark in the family business.

Mark has been unwell and his life expectancy is four years. He has run his business for the past 30
years and is aged 60. He wishes to retire from the business as soon as possible and is considering
two options to effect his retirement, as set out in Exhibit 1.

His bookkeeper has prepared a list of the original costs and current market values of his business
assets (Exhibit 2). You may assume that the asset values will not change in the next few years.

Mark also has a holiday home in Wales, which he wants to give to his children in equal shares. He
has written a letter to your firm, expressing his plans for this property (Exhibit 3).

Mark is a higher rate taxpayer, with annual taxable income of £100,000 and he uses his capital
gains tax (CGT) annual exempt amount every tax year. Mark's wife died in 2015 and left all of her
estate, including her share in the holiday home, to Mark.

Requirements

1.1 Write a report for Mark, including:

 an explanation of the capital tax (inheritance tax (IHT) and CGT) consequences of
each of the two retirement options he is considering, together with a recommendation
as to which option he should choose in order to minimise the capital tax liabilities
(Exhibits 1 and 2); and

 an estimate of the capital tax liabilities, if any, under each option, based on the
information you have been given and stating any assumptions you have made.

1.2 Write a reply to Mark's letter about his plans for his holiday home in Wales, stating any
assumptions you have made in providing your advice (Exhibit 3).
Total: 30 marks

Exhibit 1 – Options to effect Mark's retirement from the business

Option 1: Mark immediately sells the business to Dane and Maggie in equal shares, for £250,000
each.

Option 2: Mark continues to own the business until he dies, at which point he will leave it to Dane
and Maggie, in equal shares, under the terms of his will.

Mark wishes to choose the option which will minimise the total CGT and IHT payable as a result of
the transfer.

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Exhibit 2 – Assets of Mark's business
Current
Asset Cost Market value
£ £
Car showroom [remises 595,020 1,495,320
Plant and machinery (note) 200,000 50,000
Goodwill - 1,000,000
795,020 2,545,320

Note: Each item of plant and machinery was both bought and sold for less than £6,000.

Exhibit 3 – Letter from Mark concerning the gift of the holiday home in Wales

Dear Adviser, January 2022

In 1983 my wife and I bought a holiday home in Wales for £129,500. I had the house valued
last week and its estimated market value is now £1,000,000.

Being unwell, I want to start to settle my affairs and I would like to be able to gift the house,
immediately, in equal shares, to my two children Dane and Maggie.

I have spent most weekends at the house over the last 10 years, with my wife until the time of
her death. I intend to do exactly the same after the house has been given to my children. If I
become very ill, I will move in there, because the house is specially adapted for people with
limited mobility and this would be the best place to spend my last few years.

Please advise me, with calculations, of any tax consequences I should be aware of in relation
to my plans.

Kind regards

Mark

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Question 2

You are an ICAEW Chartered Accountant working for a firm of ICAEW Chartered Accountants as a
tax adviser.

PowerUp Ltd and its sole director and shareholder, Sam Brown, are clients of your firm.

Background information

PowerUp Ltd was incorporated in 2017 and provides digital marketing services to a range of
clients.

In a telephone conversation, Sam set out her plans for the future of the business (Exhibit 1). Sam
plans to sell the company within the next three years and expand the business by offering training
courses in digital marketing. In order to do this, PowerUp Ltd needs to recruit course presenters.
Details of the proposed contract to be offered to the two course presenters and of two potential
candidates for the roles are included in Exhibit 2.

Sam is concerned that her plans to expand the business will fail without help from Jamie Layton, a
key employee. As a result, Sam wants to ensure that Jamie does not leave the company in the
next three years. She intends to offer Jamie a share of the sale proceeds on sale of the company
as an incentive for him to remain with the company and has asked for your advice about the most
tax efficient method of doing so (Exhibit 3).

Requirements

1. Identify the ethical implications of Sam’s comment in relation to Ele Ltd (Exhibit 1) and the
actions you and your firm should take.

2. Prepare notes for a meeting with Sam Brown addressing the following issues:

(a) Using the information in Exhibit 2, identify and explain the tax status of the two
proposed course presenters (Andrew and Marie).

(b) Based on your decision in 2(a) above, prepare calculations of:

• the after-tax cash receivable by each of Andrew and Marie; and
• the cost, to PowerUp Ltd, of each course presenter.

(c) Identify and explain the tax implications for both PowerUp Ltd and the course
presenters if the course presenters provided their services through personal service
companies.

3. Provide advice to Sam about the tax consequences, for both PowerUp Ltd and for Jamie, of
each alternative incentive scheme (Exhibit 3).
Total: 30 marks

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Exhibit 1
Notes of telephone conversation with Sam Brown

Sam Brown rang me to discuss her plans for the future of the PowerUp Ltd business:

PowerUp Ltd has built a strong reputation, is highly profitable and has lots of potential for growth.
Sam wants to sell the company in the next three years and aims to increase its value by expanding
and offering training courses in digital marketing.

To provide these training courses, PowerUp Ltd will need to recruit digital marketing experts to act
as course presenters. The proposed contract for these course presenters and details of two
potential candidates for the jobs were sent through to us by Sam (Exhibit 2).

In passing, Sam also mentioned our new client, Ele Ltd. As a result of Sam’s recommendation, Ele
Ltd became a new client of our firm, last year. Sam warned me that Ele Ltd may be in financial
difficulties. Sam implied that Ele Ltd owed PowerUp Ltd a lot of money. Sam has asked us if we
can help by intervening and asking Ele Ltd to pay what it owes to PowerUp Ltd.

Exhibit 2
Proposed contractual agreement with Course Presenters:

• Course Presenters will be required to attend various venues around the UK to present PowerUp
Ltd’s training.

• All arrangements relating to courses, such as communication with attendees, arranging venues,
and providing course materials, will be handled by PowerUp Ltd.

• Presentations must be carried out to the standards set out by PowerUp Ltd and presenters will
portray themselves as part of the organisation. All equipment needed will be provided by
PowerUp Ltd.

• PowerUp Ltd will provide ongoing training to presenters in order to maintain the consistency and
quality of presentations.

Details of two potential candidates for the course presenter jobs

Two candidates have applied for course presenter roles, Andrew Day and Marie Knight. It is
expected they will start working for PowerUp Ltd from 6 April 2022.

Andrew Day
Andrew is an experienced presenter who currently provides training for several different
organisations. He will be contracted to present a set number of courses and paid a fixed
amount for each presentation. If Andrew is unable to carry out work personally, he will be
permitted to supply a suitable substitute presenter, at his own expense.

Marie Knight
Marie will be contracted to work 30 hours per week for PowerUp Ltd and will be paid an
hourly rate. The rate includes payment for training and time spent travelling to and from
venues, but PowerUp Ltd will not pay any holiday pay, sick pay, or other similar benefits.
Marie will be required to carry out all work personally.

It is expected that Marie’s hourly rate will equate to a payment of £60,000 gross pa, and the fees
paid to Andrew will also equate to total of £60,000 pa.

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Exhibit 3
Proposed incentive scheme for Jamie Layton

Jamie receives a salary of £150,000 pa from PowerUp Ltd.

In addition, on disposal of the company, in three years’ time, Sam is considering two alternative
methods of paying Jamie a share of the sale proceeds received from the sale of the shares in
PowerUp Ltd. It is estimated that 100% of the shares in PowerUp Ltd will be worth £5 million in
three years’ time.

The two alternatives are:

• Cash bonus – Jamie would be paid a cash bonus on the successful sale of the company,
provided that he was still employed by PowerUp Ltd at that time. The cash bonus would be
4% of the sale price of the company.

• Share option – Jamie would be granted an option over 4% of the company’s shares, which
would be exercised just before the sale of the company. Jamie would then sell his shares to
the company’s buyer. The share option would be awarded to Jamie in October 2021, for no
consideration. PowerUp Ltd has a current market value of approximately £1 million.

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Question 3

Assume it is December 2022. You work as a tax adviser for a firm of ICAEW Chartered
Accountants. The Badger Group of companies is a client of your firm.

Background information

 The Badger Group is made up of two companies; Badger Ltd sells radios to consumers and
Summer Ltd manufactures radios and sells them to Badger Ltd.

 Badger Ltd and Summer Ltd are both UK resident companies, with a 31 December year end,
having previously prepared accounts to 31 March, until 31 March 2021.

 Badger Ltd has owned 75% of the ordinary share capital of Summer Ltd, since Summer Ltd
was incorporated in 2001. The remaining 25% of Summer Ltd's ordinary share capital is
owned by Charles Nickols, a director of Badger Ltd.

 As labour costs in the UK are high, the board of directors of Badger Ltd has agreed that the
UK-based manufacturing company, Summer Ltd, is to be wound up. A new company, STP
Inc will be incorporated, as a wholly owned subsidiary of Badger Ltd, in the non-EU country
of Utopia. STP Inc will start trading on 1 January 2023, manufacturing radios for sale in the
UK by Badger Ltd. Badger Ltd's board have expressed concern that the new Utopian
subsidiary may be a controlled foreign company.

 Badger Ltd is estimated to have taxable total profits of approximately £2 million for the year
ending 31 December 2022. On 1 August 2023, Badger Ltd will invest £875,000 in a new
distribution centre.

 Summer Ltd's recent results for tax purposes have been as follows:
Taxable total profits
£
Year ended 31 March 2020 500,000
Year ended 31 March 2021 750,000
9 months ended 31 December 2021 600,000

 You recently attended a meeting with the Financial Controller of Summer Ltd and he has
provided you with a draft corporation tax computation for the year ending 31 December 2022,
together with a list of three issues. He needs your help to determine the tax treatment of
these three issues (Exhibit 1).

 Summer Ltd currently carries on its trade from a factory in the UK. The factory will be sold to
an unconnected UK company on either 31 December 2022 or 28 February 2023 (Exhibit 2).

 Summer Ltd will cease to trade on 31 December 2022, and the company will then be wound
up, using a members' voluntary liquidation. All cash remaining, after all assets have been
sold and all liabilities have been paid, will be paid to Summer Ltd's shareholders. Charles
Nickols has sent you an email setting out his concerns about the tax implications of the
payments being made on the winding up of the company (Exhibit 3).

Requirements

3.1 Prepare a report which contains:

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 (a) A calculation of Summer Ltd's tax-adjusted trading loss for the year ending
31 December 2022. This calculation should identify and explain the correct tax
treatment for the three issues raised at the meeting, as set out in Exhibit 1.

(b) An explanation and recommendation, with supporting calculations, of the most tax
efficient use of Summer Ltd's projected tax-adjusted trading loss for the year ending
31 December 2022, using the loss calculated in part 3.1(a). For this part of the question
you should assume that the factory disposal will not be made in the year ending
31 December 2022.

(c) An evaluation of the differences between the corporation tax consequences of

disposing of the factory on either 31 December 2022 or 28 February 2023 (Exhibit 2).

(d) A determination, with supporting calculations, of the VAT consequences for Summer
Ltd of the disposal of the factory (Exhibit 2), assuming the factory is sold on
28 February 2023.

3.2 Prepare a brief reply to Charles Nickols's email which explains the difference in tax treatment
between a pre and post winding-up distribution to the Summer Ltd shareholders (Exhibit 3).

3.3 Prepare brief notes identifying whether STP Inc is likely to be treated as a controlled foreign
company (CFC). State what extra information you would require to make this decision and
briefly outline the consequences for Badger Ltd of STP Inc being treated as a CFC.
Total: 40 marks

Exhibit 1 – Summer Ltd

Draft computation of tax-adjusted trading loss for the year ending 31 December 2022:
£
Loss before tax according to accounts (750,000)
Add: Disallowable expenses 95,500
Loss on sale of plant and machinery 10,000
Adjusted trading loss before adjustment for issues 1 to 3 below (644,500)

Note: These figures do not include any accounting profit or loss on the sale of the factory.

The following three issues were discussed at the meeting with the Financial Controller:

Issue 1

As a result of ceasing to trade, the entire staff of Summer Ltd will be made redundant. The costs of
redundancy of £600,000 will be paid by 31 December 2022. The accounting loss before tax of
£750,000 is stated after charging this expense to the income statement.

Issue 2

Summer Ltd will sell its remaining stock to Badger Ltd on 31 December 2022. The stock cost
£50,000 and will be sold for £75,000. This sale is not reflected in the accounting loss before tax of
£750,000.

Issue 3

All plant and machinery used by the company will be sold to unconnected UK companies on
31 December 2022. The total disposal proceeds will be £275,000. The total original cost of the
plant and machinery was £500,000. The tax written down value of the main pool on 31 December
2021 was £Nil. Summer Ltd has claimed 100% Annual Investment Allowance on all plant and
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machinery purchased for a number of years. The accounting loss on sale of the plant and
machinery has already been disallowed in the draft corporation tax computation above.

Exhibit 2 – Calculation of the chargeable gain on the disposal of Summer Ltd's factory

Summer Ltd's factory will be sold on either 31 December 2022 or 28 February 2023. The potential
chargeable gains have already been calculated, as follows:
£
Proceeds 1,000,000
Original cost of factory (acquired new in early 2017) (250,000)
(Note: VAT on cost @ 20% = £50,000)
Stamp Duty Land Tax (£300,000 @ 3%) (9,000)
Chargeable gain before indexation allowance 741,000

The indexation allowance is the same irrespective of the date of sale:

£
Chargeable gain after deduction of indexation allowance 717,250

On purchase, Summer Ltd did not opt to tax the building. Up until 31 December 2022, the building
was used 100% for taxable trading purposes. From 1 January 2023, if still owned, the building will
cease to be used for any trade.

Exhibit 3 – Email from Charles Nickols

Dear Tax Adviser,

As you know, Summer Ltd will cease trading on 31 December 2022 and the company will then
be wound up. As a 25% shareholder I am expecting to receive a cash pay-out once the
company has been wound up. I have been an additional rate taxpayer for some years now and
wondered what my tax position would be on any distribution I receive as part of the winding
up?

The other board members have mentioned that as Summer Ltd has some cash reserves, it
may be possible to pay some cash to shareholders before the end of the current accounting
period (year ending 31 December 2022), with the balance being paid after the winding up has
commenced, in 2023.

Please tell me if the timing of distributions will make any difference to my tax position and to
the tax position of Badger Ltd?

Charles Nickols

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Question 4

DPM Ltd

Assume it is now September 2022. You work in the tax department of a firm of ICAEW Chartered
Accountants. Your firm acts as tax advisers for DPM Ltd (DPM) and its subsidiaries in respect of all
its direct and indirect taxes. The head of tax and several other members of the DPM tax
department have recently left, and you are assisting the company's internal tax department with
the preparation of the corporation tax computations and other tax-related issues. As you are only
recently qualified your manager is reviewing your work closely.

Background information

DPM is a UK resident company. The company imports toys, primarily from Ruritania, which it
repackages and sells to large department stores and other retail outlets in the UK. Its shareholders
are as set out below.

Percentage shareholding Description

Deenta Burns 8 Supply chain director of DPM
Sam Yen 2 Managing director of DPM
Mark Charles 5 Finance director of DPM and of
FstDat Ltd (see below)
CC Corporation 45 Chinese resident company
ITTX Ltd 25 UK resident trading company
SEEO Ltd 15 UK resident investment company
100

DPM also has investments in other companies as described in Exhibit 1.

The group's profits/(losses) as adjusted for tax purposes for the year ended 30 November 2021 are
as follows (based on the draft corporation tax computations):

Trading Property
income/(loss) income
£ £
DPM (411,588) 20,000
FstDat 313,150
KK Source 165,000
MT-Dat (162,000)
KomSki 6,400

The property income of DPM is rental income received from FstDat for the use of DPM's
warehouse to store learning materials.

The two remaining members of the DPM tax department are Millie Green, who was promoted on 1
September 2021 and is now responsible for direct taxes, and Harry Maya who is responsible for
indirect taxes.

Requirements

Prepare a detailed memorandum to update your manager and giving advice to him on the following
issues:
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4.1 Millie is unsure how to deal with the tax implications of the disposal of the shares in KomSki
Ltd for the year ended 30 November 2021 (as yet there have been no gains included in any
of the computations for this transaction), and some of the shareholders have also asked her
whether they have a taxable disposal as a result of the transaction.

4.2 The ways in which the group's losses for the year ended 30 November 2021 can be used.
Deenta Burns is keen to offer the corporate shareholders a share of DPM's losses, so Millie
needs to know the maximum consortium relief that each of the shareholders can claim.
Total: 35 marks

Exhibit 1 – DPM holds the following investments in other companies

FstDat Ltd

DPM owns 100% of the ordinary share capital of FstDat Ltd (FstDat). FstDat was incorporated on 1
May 2013 and on 1 June 2013 it bought a newly constructed commercial building for £750,000 (net
of VAT at 20%) from which it started business supplying computer training. Initially 70% of its
revenue was from supplying training in the commercial sector (which is standard rated for VAT
purposes) and 30% related to training for universities (which is an exempt supply). In June 2017
FstDat won an additional government contract to supply training to colleges and schools (an
exempt supply) as part of a government drive to increase the use of computing. Subsequently the
revenue from the commercial sector reduced to 20% of total revenue from June 2017.

MT-Dat Ltd

DPM made an investment in MT-Dat Ltd (MT-Dat) on 1 March 2021 when it acquired 100% of its
share capital. MT-Dat is a UK recruitment agency and, although loss making in the current year, is
potentially profitable.

KK Source

KK Source is a corporation resident in Ruritania, which manufactures some of the toys which DPM
sells. DPM owns 60% of the shares in KK Source. The remaining shares are held by the Ruritanian
managers.

KomSki Ltd

Until 15 August 2021, DPM also owned 100% of the shares in KomSki Ltd, another UK resident
trading company. On 15 August 2021, the shares were distributed in kind to the shareholders in
DPM, in proportion to their shareholdings (the transaction had been approved at an EGM held on
31 May 2021). The shares had been acquired for £250,000 on 1 April 2006 (for 100 shares), and
were valued at £470,000 on 15 August 2021. At the time of the distribution KomSki Ltd owned a
storage warehouse which had been transferred to it from DPM on 21 March 2020 for its original
cost of £100,000, when it was believed to be worth £290,000 (it had originally been acquired by
DPM on 3 May 2008).

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Question 5

You are an ICAEW Chartered Accountant, working in practice as a tax adviser. The Cabbage plc
group of companies and Cabbage plc’s sales director, Alisha Hussain, are both tax clients of your
firm.

Background information

Cabbage plc

Cabbage plc is an online retailer of sportswear, with a turnover of £15 million pa and more than
1,000 employees.

Cabbage plc has two overseas permanent establishments (PEs), based in non-EEA countries.
One PE is based in Eastland and the other in Westland. Cabbage plc may set up further overseas
PEs in the future, as part of its expansion strategy.

Cabbage plc also has one wholly-owned UK subsidiary, Frost Ltd.

For the year ended 30 June 2021, Cabbage plc has tax-adjusted trading profits of £1.35 million
and Frost Ltd has tax-adjusted trading losses of £127,500.

At a recent meeting, the management of Cabbage plc discussed two proposed transactions:
• incorporation of the two overseas PEs; and
• restructuring of a loan made by Cabbage plc to Frost Ltd.

Details of these two proposed transactions are in a file note (Exhibit 1).

Requirements

Using the information in Exhibit 1, prepare notes for your manager to:

(a) Identify and explain the tax implications for Cabbage plc of the incorporation of its overseas
PEs.

Your answer should include relevant calculations and any anti avoidance provisions which
may apply. Include a recommendation on whether each of the PEs should be incorporated
for tax purposes.

(b) Advise on the corporation tax implications of the restructuring of the loan to Frost Ltd.

Total 40 marks

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Exhibit 1
File Note:
Cabbage plc - details of two proposed transactions:

(1) Incorporation of overseas PEs

The management of Cabbage plc is considering incorporating its overseas PEs, on 1

October 2021, to minimise its tax liabilities.

In order to decide if incorporating the PEs will reduce UK tax payable, Cabbage plc has
provided the following information:

Cabbage plc and its PEs have always been profitable. Profits are expected to continue at
their current levels for the foreseeable future.

The calculation of taxable profits in both Eastland and Westland is similar to the calculation
of taxable profits in the UK. Neither Eastland nor Westland has a double tax treaty with the
UK.

Tax rates in Eastland and Westland are as follows:

Eastland Westland
Corporation tax rate 10% 12%
Tax on earnings of foreign-owned PEs 15% 12%
Withholding tax on dividends None 10%

Eastland PE

The Eastland PE was set up in 2010.

The management of the PE live in Eastland and make decisions locally.

It has been agreed that on incorporation of this PE, the local management of the PE would
purchase 20% of the shares in the company.

In the year ended 30 June 2021, operating expenditure was £11 million, with profits of
£650,000.

The following information on the PE’s assets has been provided. All assets are located in
Eastland:
Cost plus indexation to Estimated market
December 2017 value on 1 October 2021
£ £
Plant and machinery (Note 1) 50,000 20,000
Office building 500,000 400,000
Warehouse (Note 2) 100,000 150,000
Internally generated goodwill NIL 2,000,000

Note 1
• Plant and machinery is made up of many small items, each with a cost and current
market value of less than £6,000.

• Tax written down value of the plant and machinery as at 30 June 2021 was Nil.
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 Note 2
The warehouse will be sold in the next 18 months.

Westland PE

The PE in Westland was set up in 2008 and is managed from the UK, with local workers
implementing decisions made by UK management.

If the Westland PE is incorporated, Cabbage plc will consider transferring the management,
in terms of the key decision making, to a team working for the incorporated company in
Westland. This will be done in the next 12 months.

In the year ended 30 June 2021, operating expenditure was £1.2 million with profits of
£40,000.

The following information has been provided about the PE’s assets:
Cost plus indexation to Estimated market value
December 2017 on 1 October 2021
£ £
Internally generated goodwill 0 600,000
UK office building 100,000 110,000

(2) Restructuring loan made to Frost Ltd

Frost Ltd is having trading difficulties and has been making trading losses. The company has
an existing long-term, floating rate loan from Cabbage plc.

The chances of repaying this loan are low. However, instead of writing off this loan, Cabbage
plc proposes making a new, interest-free loan to Frost Ltd, allowing the original, interest-
bearing loan to be repaid. The new loan will be repayable on demand.

The directors of Cabbage plc believe that there will be no expense on Frost Ltd’s income
statement in respect of the new loan and that this arrangement will prevent interest being
charged as an expense to Frost Ltd. This would therefore reduce the amount of the tax-
adjusted losses generated in future accounting periods.

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