Basic Tax Question

[wurzel]

The scenario is this:

I'm IR35 caught & it's the end of the first quarter of the tax year & it's time to pay my PAYE.

Let's assume I've earned 30k during these first 3 months which, on a pro rata basis, puts me in the higher tax bracket. In these circumstances, would I actually pay any higher rate tax on this or would that not happen until I've actually hit £43k meaning that everything I earn thereafter is taxed at 40%.

(this should be one for my accountant but I always get a much faster response on here)

[Craig@Clarity]

IR35 is calculated on a cash basis so if your profit in this tax year so far under your IR35 caught contract is £30k and you have no other salary income i.e. £30k is your only bonus, then you're not a HR tax payer. It's only if you already have a salary in place in your company then the £30k is in addition to that that it may push you into HR tax. It's what is called a deemed salary.

Hope that helps.

[wurzel]

IR35 is calculated on a cash basis so if your profit in this tax year so far under your IR35 caught contract is £30k and you have no other salary income i.e. £30k is your only bonus, then you're not a HR tax payer. It's only if you already have a salary in place in your company then the £30k is in addition to that that it may push you into HR tax. It's what is called a deemed salary.

Hope that helps.

Whenever I've worked as a permie, my monthly tax bill has been constant throughout the year. According to what you say I should suddenly see my contribution on my payslip shoot up once I'd hit the higher rate but that's never happened.

[Craig@Clarity]

Say you have a £12k salary in place at the moment. Come the end of the tax year when you decide to calculate the deemed salary, the one off "bonus" is then applied to your final PAYE payment for the tax year and should be cleared with HMRC by 22 April. This is where the higher rate tax liability is paid on your behalf by your company.

In this example, if your base salary is below the HR threshold, your contributions will be consistent throughout the year and no HR tax would kick in.

[wurzel]

Say you have a £12k salary in place at the moment. Come the end of the tax year when you decide to calculate the deemed salary, the one off "bonus" is then applied to your final PAYE payment for the tax year and should be cleared with HMRC by 22 April. This is where the higher rate tax liability is paid on your behalf by your company.

In this example, if your base salary is below the HR threshold, your contributions will be consistent throughout the year and no HR tax would kick in.

But if I'm IR35 caught & am invoicing 10k / month doesn't this mean I have have a salary of £120k because all IR35 income is deemed as salary & therefore I WOULD pay HR tax in my first PAYE payment of the tax year?

[Craig@Clarity]

You'll pay PAYE and NI on your deemed salary not turnover under IR35. Deemed salary is, in very basic terms, the profit you make under the contract. The deemed salary is worked out on a cash basis so if in your example, you have "£30k profit" so far, then this is what you'll be tax on this tax year and not the anticipated full £120k. The remaining £90k of your contract is taxed in the new tax year.

Anticipating such a high deemed salary in the new tax year, I would get your accountant to up your basic salary closer to £90k in your company for this contract so that you spread the tax and NI over the year rather than make a one off bonus payment. Lessens the blow in April 2012. Also, get advice from them on what expenses will lessen the impact of an IR35 deemed salary.

[wurzel]

You'll pay PAYE and NI on your deemed salary not turnover under IR35. Deemed salary is, in very basic terms, the profit you make under the contract. The deemed salary is worked out on a cash basis so if in your example, you have "£30k profit" so far, then this is what you'll be tax on this tax year and not the anticipated full £120k. The remaining £90k of your contract is taxed in the new tax year.

Anticipating such a high deemed salary in the new tax year, I would get your accountant to up your basic salary closer to £90k in your company for this contract so that you spread the tax and NI over the year rather than make a one off bonus payment. Lessens the blow in April 2012. Also, get advice from them on what expenses will lessen the impact of an IR35 deemed salary.

Thanks Craig.

[LisaContractorUmbrella]

Whenever I've worked as a permie, my monthly tax bill has been constant throughout the year. According to what you say I should suddenly see my contribution on my payslip shoot up once I'd hit the higher rate but that's never happened.

PAYE works, usually, on a cumulative basis and the tax owed is worked out according to the annualised figure for the cumulative total of your monthly/weekly earnings.

e.g. Month 1 - earnings of £6000 - your tax would be calculated according to £6000 less allowances x 12 - for this example ignore allowances - which equals £72,000
Month 2 - earnings of £2000 - your tax would be calculated according to £8000 less allowances divided by 2 x 12 - ignore allowances - which equals £48,000

Your taxes in each month are then worked out accordingly. Therefore, in a permanent position your earnings are the same each month and as such the annualised figure will be the same each month and your tax bill will be the same.

[wurzel]

PAYE works, usually, on a cumulative basis and the tax owed is worked out according to the annualised figure for the cumulative total of your monthly/weekly earnings.

e.g. Month 1 - earnings of £6000 - your tax would be calculated according to £6000 less allowances x 12 - for this example ignore allowances - which equals £72,000
Month 2 - earnings of £2000 - your tax would be calculated according to £8000 less allowances divided by 2 x 12 - ignore allowances - which equals £48,000

Your taxes in each month are then worked out accordingly. Therefore, in a permanent position your earnings are the same each month and as such the annualised figure will be the same each month and your tax bill will be the same.

So I could get my accountant to set up a payroll & pay a fixed amount every month or, alternatively, just pay a lumps sum at the end of the tax year?

[Craig@Clarity]

So I could get my accountant to set up a payroll & pay a fixed amount every month or, alternatively, just pay a lumps sum at the end of the tax year?

In respect of the IR35 bonus yes. For your normal salary, you should pay it monthly and pay the associated tax and NI.