A contractor’s guide to reimbursed expenses

As a contractor running your own limited company, there are two types of re-imbursed expenses, writes Graham Jenner of contractor accountancy firm Jenner & Co.

The two types of reimbursed expenses…

1. Expenses that an end-client or agency agrees to reimburse to the contractor – or, more strictly-speaking, to the contractor’s limited company.

2. Expenses that the director/shareholder of the contractor’s company reimburses to the director.

As suggested at the top, this article assumes that the contractor operates through their own limited company (also known as a Personal Service Company, or PSC).

Expenses re-imbursed by agency or end-client

As part of a contract, the agency or the end-client may agree to reimburse certain expenses that may be incurred by the contractor. The phrase ‘reimbursed’ really means expenses that the contractor or their company have incurred, and that the agency/client have agreed to pay on presentation of a receipt as evidence.

The reimbursement would be for the exact amount incurred. However, the agency or end-client may agree to pay towards an expense or even to pay an allowance e.g. for accommodation. They wouldn’t necessarily require a receipt. For the purposes of this article, these will be referred to as re-imbursed expenses.

It doesn’t matter what the reasoning is behind the agency or end-client re-imbursing the expenses; they will all simply be regarded as the company’s income. It is just the way the contract has been agreed -- alternatively, the agency/end-client may have agreed to pay a higher rate per hour and the contractor would be expected to meet all the expenses themselves.

You can see that, if the company has to treat the expenses as income, tax is potentially going to be paid on those expenses.

What can a limited company deduct from the total income?

If the limited company has directly incurred expenses connected with the above reimbursement e.g. has paid for hotel accommodation, then the cost of that can be set against the income. The amount that can be deducted by the company (in arriving at taxable profits) is the cost it incurred -- NOT the amount the company has been paid for that expense.

It will often be the case that the two amounts are the same -- since the agency or end-client might have agreed to only reimburse the actual amount incurred. The point to be clear on, though, is that, just because the amount paid to the company is said to be ‘reimbursed expenses’, it doesn’t mean that it is NOT taxable on the company. If it were that simple, contracts would be written with low hourly or daily rates, but high levels of reimbursed expenses!

If, instead of the company, the director/shareholder has incurred an expense connected with the expense reimbursed by the agency/client, then the company’s reimbursement to the director of that cost CAN be set against the company’s income. However, it will be the amount that the company pays that can be deducted, NOT the amount that the agency/client has reimbursed to the company. This may be the same figure but isn’t necessarily. See the next section for why.

Company re-imbursing the director/shareholder

When it comes to the company reimbursing the director/shareholder for expenses that they have incurred, the tax treatment as laid down by HMRC will play a large part. There is usually no benefit in reimbursing the director/shareholder at a rate greater than the amount that can be paid tax-free.

If the director/shareholder incurs an expense that the company can legitimately pay and deduct from total income, then it should be paid. In fact, it is tax-efficient, whether or not the agency/client is reimbursing the company, since, either way, it reduces the company’s taxable profit.

Let’s take some examples to illustrate this.

Example 1 – mileage allowance

The agency agrees to pay 50p per mile travelled on necessary travel between sites.

Tom, the shareholder/director, uses his own car and travels 2,000 miles in total between sites during a month. The agency pays Tom’s company £1,000 (2,000 miles at 50p). This will be treated as part of the company’s income, but paying a mileage allowance to Tom, will reduce that income.

Tom can claim, tax-free, 45p per mile for the first 10,000 miles in a tax year and 25p per mile thereafter. It is tax-inefficient for the company to pay more than the tax-free amounts. Tom has already claimed for 9,500 miles this tax year at 45p, so he claims 500 miles at 45p and 1,500 miles at 25p, a total of £600.

The company pays this to Tom and can deduct it from the total income. This means that £400 of the mileage which the agency paid to Tom’s company forms part of its profit. That is acceptable, though, as many agencies would only agree to reimburse the lower tax-free sum of 25p.

  Company Tom (tax and NI-free)
Expenses paid by agency 1,000  -
Paid to Tom -600 600
Added to other profits 400  -

Example 2 – mileage allowance

The facts are the same as above except now, the agency only agrees to pay 20p per mile.

The agency pays Tom’s company £400 (2,000 miles x 20p). Tom’s company should still pay him at the 45p and 25p tax-free rates, paying him £600 as above, as this is tax-efficient.

  Company Tom (tax and NI-free)
Expenses paid by agency 400  -
Paid to Tom -600 600
Deducted from other profits -200  -

Example 3 – Agency pays an accommodation allowance

In this third example, the agency pays £200 towards accommodation that Tom paid for, at a cost of £300. Tom can be reimbursed tax-free for the actual cost.

  Company Tom (tax and NI-free)
Expenses paid by agency 200  -
Paid to Tom -300 300
Deducted from other profits -100  -

Example 4 – Agency pays an accommodation allowance or contribution

In this fourth example, the agency is feeling generous – it pays £400 towards accommodation that Tom paid for, at a cost £300. Tom can be reimbursed, tax free, for the actual cost.

  Company Tom (tax and NI-free)
Expenses paid by agency 400  -
Paid to Tom -300 300
Added to other profits 100  -

Example 5 – Agency pays accommodation at the actual amount incurred

Having to stay away from home for work, Tom incurs the cost of a hotel at £900, which the agency has agreed they will reimburse to Tom’s company at the amount paid per the receipt. Tom can be reimbursed tax-free for the actual cost.

  Company Tom (tax and NI-free)
Expenses paid by agency 900  -
Paid to Tom  -900 900
Added to other profits Nil  -

Example notes: the key takeaway

The above examples, hopefully, demonstrate that whatever sum the company may be reimbursed by the agency/client cannot, simply, be regarded as ‘tax-free.’

Separately but related, be aware you should look at what cost the company actually incurred. That might be what cost it makes sense for the company to tax-efficiently reimburse to the shareholder/director.

Should contractors try to negotiate a contract to include reimbursed expenses?

The answer to this interesting question rather depends on the alternative!

If the alternative is the same rate and no reimbursed expenses, then absolutely -- try to negotiate reimbursed expenses on top.

However, if it is a choice between a higher rate or reimbursed expenses then you may have to do the maths.

If you don’t know the extent to which reimbursed expenses will apply e.g. you don’t know how often you will be expected to travel to site or work away from home, for example, then reimbursed expenses provide greater certainty, than being paid a higher rate, but with no reimbursed expenses. For all your other reimbursed expenses queries, talk them out first with your accountant!

Tuesday 7th Nov 2023
Profile picture for user Graham Jenner

Written by Graham Jenner

Graham is a Chartered Accountant and has run his own accountancy practice, Jenner Accountants Ltd, for over 20 years and is the MD of Nopalaver Group, which provides Umbrella company and other services to contractors. He specialises in dealing with family run businesses and contractors, supported by a strong team including 5 qualified accountants.

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