Look No Further
By Contractor Weekly
OTS decide against lookthrough taxation
The Office of Tax Simplification (OTS) has published its final report on Lookthrough Taxation, following the discussion paper in the summer.
Under lookthrough taxation a small company’s direct profits would be levied not on the company itself but on the shareholders, on their allocated share of the profits. Hence the term ‘lookthrough’. This would then remove the need for company taxation with the aim of putting small companies and sole traders on the same footing with similar tax on similar profits. Although the shareholders would pay income tax and Class 4 NIC on their profit shares all other requirements would remain those of the company, such as VAT and accounting requirements.
Which companies would lookthrough apply to?
Lookthrough was initially considered as an effective simplification for companies that:
• generally do not intend to increase in size
• are effectively one-person businesses
• distribute all (or almost all) their profits
• have few assets or need for investment funds
The criteria could therefore describe the average PSC.
The OTS wanted to establish if lookthrough would deliver tax simplification and concluded that it was more of a “sticking plaster, one that is difficult to apply and also would not cover the ‘wound’ properly”. Once the company accounts have been prepared and finalised, the corporation tax burden is modest and therefore the simplification gained by eliminating the need for corporation tax compliance is outweighed by technical issues that would arise, and also the confusion and scope for error lookthrough could cause. Furthermore, lookthrough would potentially damage the funds retained for investment by taxing retained profits at full income tax/NIC rates and could discourage entrepreneurs.
Whilst the OTS do not recommend lookthrough as a method of simplifying tax for small companies they are sympathetic to arguments in favour of it as part of a more radical reform of the tax system, including potential greater equality in the taxes paid by self-employed traders, company owners and employees. This may be needed as future corporation tax rates fall and sole traders may see incorporating their businesses as more tax efficient. The OTS therefore see merit in a long range, strategic review of taxation in this area, to look at the whole question of how labour income should be taxed.