INCOME-TAX COMPUTATIONS.
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The Method of Ascertaining "Statutory Income."
By S. Howard Matey, F.C.I., etc. (Accountant and Auditor).
A LTHOUGH the balance shown in the annual profittiand-loss account may be satisfactory from the transport operator's point of view, the amount will have to be adjusted, and often very materially so, for purposes of income-tax assessment. In this connection the points summarized below should be observed in interpreting the provisions of the complex Income Tax Acts,
The income-tax year commences on April 6th and ends on April 5th, and it has already been determined by the authorities that the tax is payable on the first day of January, three-quarters of the way through the year of assessment. An assessment for 1926-27, the forms relating to which have already been received by the mechanical road transport operator, is therefore payable on January 1st, 1927, but it is customary for the authorities to extend the time of payment to the following July.
What are "Net Profit" and "Statutory Income"?
There is a considerable difference between the term "net profit" as understood by the transport operator and the term "statutory income" as understood by the tax authorities. The net profit is ascertained by charging every kind of business expense or trading burden against the gross profit, but the statutory income from a road transport business is the amount of net profit actually made during the year, plus certain amounts that are not allowed as legitimate deductions for tax purposes and less certain amounts that may legally be deducted, in addition to those already charged in the ordinary profit-and-loss account.
The assessment should be made on the average statutory income which has been derived from the carrying on of the business during the three years immediately preceding the year of assessment. It will be observed, therefore, that the actual year of assessment should not be included in the average, so that the 1926-27 assessment should be based on the average of the statutory incomes during the three years 1923-24, 1924-25 and 1925-26. As, however, the transport operator does not balance his books and accounts at April 5th, the years to be brought within the scope of the present assessment will he the financial years which ended on dates immediately, prior to April 5th, 1926. For example, if the operator's accounting period ends at December 31st each year, the years to be brought in will be the years ended December 31st, 1913, December 31st, 1924, and December 31st, 1925. Where the accounts are balanced at March 31st each year, however, the three years will be March 31st, 1924, 1925 and 1926.
Presuming that the transport operator has already drafted a profit-and-loss aceount for the year ended December 31st, 1926, there will be certain amounts charged therein as expenses which will not be recognized as deductions by the authorities, and the amounts so involved will consequently have to be added to the net profit or deducted from the net loss shown in. the account, as the case may be. The deductions not allowed are indicated below :—
(a) Additions or improvements to motor or other vehicles made during the year.
(b) Additions, improvements or extensions to buildings, plant, machinery, tools, equipment, furniture, fixtures, fittings, etc.
(c) Depreciation actually written off the hook value of road transport, land, leases or any other asset.
(d) Sums set aside out of the profits as reserves or transferred to a suspense account.
(e) Goodwill actually written off. ert0 (f) Expenses incurred in connection with any of the operator's assets or in connection with any requirements of a capital nature.
(g) Salary or drawings of the operator or of the partners, or any payments made to an inactive partner.
(h) Interest on capital.
(i) Expenses not directly connected with the business, such as personal expenses, etc.
(j) Ground rent, annuities, annual interest, etc.
(k) Bad debts recovered and added to a reserve.
(1) Preliminary expenses (in the case of a limited company) which have been actually written off.
With regard to ground rent, annuities, annual interest, etc., income tax at the highest rate should be deducted by the operator at the time of payment.
• The following items should, however, be deducted, where applicable, from the profit shown in the profitand-loss account, or added to the loss, as the case may be :— (a) The amount representing the gross annual value of the business premises, providing no rent or repairs have been already charged against the profits. If repairs have been debited, but no charge has been made for rent, the net annual value of the premises (and not the gross) should be deducted.
(b) Sums debited to a reserve account, or to a suspense account, which could have been charged against the profits had the operator wished to do so.
(c) Cash received from sub-tenants, providing no charge of any kind has already been made against the profits in respect of the particular premises sub-let.
(d) Rent actually received from property owned and• which has been credited to the profit-and-loss account.
When accounts are produced to the Surveyor of Taxes, it will be necessary to ensure that no receipts of the following nature are included as taxable income by the authorities:—
(a) Premiums on any stock, shares or debentures.
(b) Amounts representing actual appreciation in the value of transport or any other asset except stock.
(c) Profits made on the Sale of any stocks or shares.
(d) Profits made on any casual transaction not directly connected with transport operations, such as a profit on the sale of a house, which is outside the scope of the operator's ordinary business.
(e) Gifts from relatives or friends, even where these are regular receipts, providing they are voluntary. These need not, as a matter of fact, be included in the accounts submitted.
(f) Receipts, stiefi as interest on War Loan, rents, dividends, etc., from which income tax has already been deducted.
With regard to profits made on the sale of stocks or shares, if these were sold "cum div.," a portion of the price will represent income and should be included as taxable income.
In the case of an excessive assessment, notice of appeal should be given in December upon the receipt of the demand note. For the purpose of showing the exact amount of profit made or loss sustained the local Surveyor of Taxes, if requested. will give the transport operator an account form to fill in. If there be then still disagreement with the Surveyor on the matter, the operator may appear personally before the Commissioners, who will examine the books and accounts.
In the case of a change of ownership, if the actual profits made during each of the first three years after the change be below the assessment, the operator may claim to be assessed on the actual profits made during the period of his own trading. If income tax has, in such a case, been actually paid, the operator may claim a repayment, providing it can be proved to the sails • faction of the authorities that the stafe of affairs is due, for the most part, to the change of ownership. • During the early years of a business the customary basis of assessment is as follows :—The profits made during the first incomplete year Should be determined by agreement with the Local General Commissioners, and, providing the figures submitted can be substantiated by documentary evidence and the approximate figure of profit be fairly computed, no great difficulties will be experienced by the transport operator.. For the first complete year and for the second complete year the balance of the first annual profit-and-loss account will be the basis of assessment. For the third complete year the average of the profits for the first two years will be the 'basis of computation, and for the fourth year the basis will be the average of the profits made during the first three years. For all subsequent years the basis will be the average of the three complete years immediately preceding the year of assessment.
When a -road transport business is discontinued the taxpayer is entitled 'by Statute to ne assessed on the actual profit made during the last year, providing it can be shown that the amount of tax actually paid during the last three years exceeded the amount which would have •been paid had the business been assessed otk the profits Made during each of those three years.
'It should be added that this article is based Upon the Finance and other Acts prior to the Finance Act of 1927, with the provisions of which my readers will not be concerned until next year.