Proforma income tax computation

The amount of a person’s income to which the income tax rates are to be applied is generally known as ‘taxable income’.

Taxable income is statutory ‘total income’ less amounts deductible from total income, as opposed to amounts deductible in computing total income.

To find a person’s (‘the taxpayer’) liability to income tax for a tax year, the following steps are applied:

• Step 1 – Identify the amounts of income on which the taxpayer is charged to income tax for the tax year. The sum of those amounts is ‘total income’. Each of those amounts is a ‘component’ of total income.
• Step 2 – Deduct from the components the amount of any relief (under a provision listed below) to which the taxpayer is entitled for the tax year. The sum of the amounts of the components left after this step is ‘net income’.
• Step 3 – Deduct from the amounts of the components left after Step 2 any allowances to which the taxpayer is entitled for the tax year (under ITA 2007, Pt. 3 Ch. 2 or ICTA 1988, s. 257 or 265 (individuals: personal allowance and blind person's allowance)).
• At Steps 2 and 3, the reliefs and allowances are deducted in the way which will result in the greatest reduction in the taxpayer's liability to income tax (ITA 2007, s. 25(2)).
• Step 4 – Calculate tax at each applicable rate on the amounts of the components left after Step 3.
• Step 5 – Add together the amounts of tax calculated at Step 4.
• Step 6 – Deduct from the amount of tax calculated at Step 5 any tax reductions to which the taxpayer is entitled for the tax year (under a provision listed below).
• Step 7 – Add to the amount of tax left after Step 6 any amounts of tax for which the taxpayer is liable for the tax year under any provision listed below.

The result is the taxpayer's liability to income tax for the tax year.

Reliefs

If the taxpayer is an individual, the provisions referred to at Step 2 above are broadly as follows:

• (a) early trade losses relief;
• (b) share loss relief;
• (c) gifts of shares, securities and real property to charities, etc.;
• (d) payments to trade unions or police organisations;
• (e) pension schemes: relief under net pay arrangement: excess relief;
• (f) pension schemes: relief on making of claim;
• (g) trade loss reliefs: against general income; carry-forward loss relief; terminal loss relief; and post-cessation relief;
• (h) property reliefs: carry-forward; against general income; and post-cessation;
• (i) employment loss relief against general income;
• (j) loss relief against miscellaneous income;
• (k) interest payments; annual payments and patent royalties;
• (l) manufactured dividends on UK shares: payments by non-companies; manufactured interest on UK securities: payments not otherwise deductible;
• (m) plant and machinery allowances in a case where the allowance is to be given effect under CAA 2001, s. 258 (special leasing of plant and machinery);
• (n) industrial buildings allowances, in a case where the allowance is to be given effect under CAA 2001, s. 355 (buildings for miners, etc.: carry-back of balancing allowances);
• (o) patent allowances in a case where the allowance is to be given effect under CAA 2001, s. 479 (persons having qualifying non-trade expenditure);
• (p) deduction for liabilities related to former employment;
• (q) strips of government securities: relief for losses;
• (r) listed securities held since 26 March 2003: relief for losses: persons other than trustees); and
• (s) relief for patent expenses.

Tax reductions

If the taxpayer is an individual, the provisions referred to at Step 6 above are broadly as follows:

• (a) tax reductions for married couples and civil partners;
• (b) EIS relief;
• (c) VCT relief;
• (d) Community investment tax relief;
• (e) qualifying maintenance payments;
• (f) payments for benefit of family members;
• (g) spreading of patent royalty receipts;
• (h) relief for interest on loan to buy life annuity;
• (i) top slicing relief;
• (j) relief for deficiencies;
• (k) double taxation relief;
• (l) relief for foreign tax where no double taxation arrangements;
• (m) relief for qualifying distribution after linked non-qualifying distribution; and
• (n) relief where foreign estates have borne UK income tax.

Tax reductions are deducted in the order which will result in the greatest reduction in the taxpayer's liability to income tax for the tax year.

If the taxpayer is an individual, the provisions referred to at Step 7 above are broadly as follows:

• (a) gift aid: charge to tax;
• (b) pension schemes: the short service refund lump sum charge;
• (c) pension schemes: the special lump sum death benefits charge;
• (d) pension schemes: the unauthorised payments charge;
• (e) pension schemes: the unauthorised payments surcharge;
• (f) pension schemes: the lifetime allowance charge;
• (g) pension schemes: the annual allowance charge; and
• (h) social security pension lump sum.

Law: ITA 2007, s. 23, 24, 25, 26–30

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