Understanding Business Accounting For Dummies, 2nd Edition (25 page)

We should say that many businesses do report their annual profit correctly - sales revenue and expenses are recorded properly and without any attempt to manipulate either side of the profit equation.

Refer to Chapter 13 for more about how choosing one expense accounting method over another method impacts profit. (
Note:
The following sections, which discuss expenses and income that are not deductible or are only partially deductible, have nothing to do with choosing accounting methods.)

Deductible expenses

What expenses can you claim when you are self-employed? Expenditure can be split into two main categories, ‘Capital' and ‘Revenue'.

Capital Expenditure:
Capital expenditure is expenditure on such items as the purchase or alteration of business premises, purchase of plant, machinery, and vehicles, or the initial cost of tools. You cannot deduct ‘Capital expenditure' in working out your taxable profits, but some relief may be due on this type of expenditure in the form of Capital Allowances. Your Tax Office can give further advice on these allowances.

Revenue Expenditure:
It is impossible to list all the expenses that can be deducted but, generally speaking, allowable expenditure relates to day-to-day running costs of your business. It includes such items as wages, rent, lighting and heating of business premises, running costs of vehicles used in the business, purchase of goods for resale, and the cost of replacing tools used in the business.

Non-deductible expenses

To be deductible, business expenses must be
ordinary and necessary
- that is, regular, routine stuff that you need to do to run your business. You're probably thinking that you can make an argument that
any
of your expenses meet the ordinary and necessary test. And you're mostly right - almost all business expenses meet this twofold test.

However, HM Revenue and Customs consider certain business expenses to be anything but ordinary and necessary; you can argue about them until you're blue in the face, and it won't make any difference. Examples of non-allowable expenditure are your own wages, premiums on personal insurance policies, and income tax and National Insurance contributions. Where expenditure relates to both business and private use, only the part that relates to the business will be allowed; examples are lighting, heating, and telephone expenditure. If a vehicle is used for both business and private purposes, then the capital allowances and the total running expenses will be split in proportion to the business and private mileage. You will need to keep records of your total mileage and the number of miles travelled on business to calculate the correct split.

Here's a list of expenses that are
not
deductible or are only partially deductible when determining annual taxable income:

Customer entertainment expenses:
Definitely a no go area. For a while entertaining overseas customers was an allowable tax expense until the Revenue became suspicious of the amazing number of people being entertained by businesses with no export activity whatsoever.

Bribes, kickbacks, fines, and penalties:
Oh, come on, did you really think that you could get rewarded for doing stuff that's illegal or, at best, undesirable? If you were allowed to deduct these costs, that would be tantamount to the Revenue encouraging such behaviour - a policy that wouldn't sit too well with the general public.

Lobbying costs:
You can't deduct payments made to influence legislation. Sorry, but you can't deduct the expenses you ran up to persuade Minister Hardnose to give your bicycle business special tax credits because riding bicycles is good exercise for people.