Business Expenses - Overview for Small Businesses

For small business people, the separation between “allowable” and “non-allowable” expenses is complex. This guide aims to provide an overview of business expenses, with links to further resources which provide more in-depth information.

You should always consult an accountant if you need clarification on claiming business expenses, and before relying purely on information contained in this guide. Your accountant will be able to advise you not only on how this applies to your business, but also what the current view of HMRC is on particular issues.

The Inland Revenue “Expenses and Benefits” Tax Guide can be found here: http://www.hmrc.gov.uk/guidance/480.pdf

Allowable Expenses

Generally, you can deduct from your turnover all costs incurred for the purpose of generating business profits, such as cleaning costs, utilities, business insurance, postage, office rental, and so on. However, you cannot legitimately claim expenses for costs incurred for non-business activities. You can only claim expenses incurred wholly, exclusively and necessarily” in performing your business duties.

Many small business people may also claim expenses which are “dual purpose”, and part of these expenses can be claimed against the business – for example, you can claim the proportion of your personal phone bill relating to business calls. In the end what you can claim will depend on what kind of business you run – a fashion model may be able to claim for lipstick … but not a builder!

Capital Allowances

The purchase of business equipment or premises cannot be counted as an expense. These items are dealt with by claiming capital allowances which can then be offset against profits. Companies can deduct a proportion of capital costs against taxable profits, although the rate varies according to what you are claiming for.

If you are purchasing business equipment (tools, computers, furniture, machines, etc.), the main capital allowance rate for businesses is 25% per year (20% from 2007/2008). Most small companies can claim a 40% allowance in the first year of trading. In some cases, you can claim 100% in the year following purchase. Be careful though as the allowable rates for tax purposes do often change from year to year. Make sure you check the current rates before the accounts are finalised.

Benefits in Kind

If a company pays for anything for the personal use of an employee, or director, these expenses would typically result in a “benefit in kind” charge – i.e. income tax and national insurance (NI) for the employee and NI liabilities for the employer. Using a business credit card to pay for such expenses can avoid the need for expenses to be reimbursed. You can also apply for a dispensation to cover reimbursement of expenses to employees (among other issues). This will save you reporting issues covered by the dispensation on P11D forms. It takes initial effort but anything that saves paperwork is good!

P11D Form

An employer must complete a P11D (Expenses and Benefits) form each year for each employee earning £8,500 or more (including benefits) and all directors. The P11D contains details of all expenses claimed by each employee/director during the tax year to 5th April. A similar form – the P9D is used for employees earning less than £8,500 p.a. All completed P11D forms must be returned to HMRC by 6th July each year.

Repaying a director for business expenses has to be reported too, although you need to be careful to claim the cost on your tax return as well as recording the reimbursement.

Inland Revenue Guide to Benefits in Kind - http://www.hmrc.gov.uk/employers/ebik/index.htm.

Travel Expenses

Travel costs incurred wholly, exclusively and necessarily on company business can be reimbursed. However, travel from home to work is not allowed.

Traveling to a client site or temporary workplace can be claimed. According the Revenue, “a workplace is not a temporary workplace if the employee can expect to work there in a continuous period of work lasting 24 months or more.”

Additionally, via the fixed term appointment rule; “a workplace is not a temporary workplace if the employee can expect to work there in a continuous period of working lasting for all or almost all of the likely duration of the employment.” If you use your own car for business purposes, you can claim 40p per mile (to a maximum of 10,000 miles) and 25p per mile after that – per tax year.

Motorcycle rates are 24p per mile, and Cycles are 20p per mile. You may also claim for parking costs and congestion charging, but not for any parking tickets of fines you may incur.

HMRC Guide to Business Travel - http://www.hmrc.gov.uk/employers/ebik/ebik3/business-travel-01.htm

Overnight Allowances

As a general rule, the cost of staying away on business is a tax-deductible expense. The key thing to remember is that claims for expenses whilst staying away must be reasonable (i.e. meals, drinks, accommodation costs). The Revenue also provides a modest allowance for “incidental overnight expenses” of £10 for overseas stays, and £5 per night for stays within the UK.

However, you couldn’t claim for lunch while out of the office just for the day, as you’d have paid for this personally if you were working at your usual location. Neither would taking a potential client out to lunch be tax-deductible. You might show it in the business accounts as a cost, but it would be disallowed for tax purposes.

Working from Home

As more and more people choose to work from home, the question of how you can reclaim any home office expenses is frequently asked. This is one of the issues most likely to be challenged in the event of a Revenue inspection.

Read our dedicated guide to claiming homeworking expenses.

Business Expenses & VAT

The rules for claiming business expenses are complex, however they become more so where Value Added Tax is involved. Beware that the rules are not always the same as when claiming expenses for income tax purposes.

Car expenses are a particularly tricky area and you should always ask advice before purchasing or leasing a vehicle. For the purposes of VAT calculations, expenses are viewed as being “non-business”, “taxable” and “exempt”.

If you are registered for VAT, you can only reclaim the VAT on purchases which have been made purely for business reasons.

You can read more in the HMRC VAT Section, or ask your accountant for clarification.

Keeping Records

The rules relating to claiming business expenses are strict. You are also likely to collect a large number of expense-related receipts and documents over the year. For these reasons, it is essential that you keep accurate records in order to back up all claims you make when calculating both business and personal tax records each year.

Thanks to Ian Marlow at HfM Accountants for his contributions to this guide.