Before a business idea can be implemented, it is necessary to create a business plan. This serves as the founder’s roadmap, and summarises all necessary information about planning and finances. However, the business plan is also highly relevant for investors as well as potential financial and funding institutions, since it is a decision-making factor for loans and grants. Due to its importance and...
As the saying goes “nothing is certain, but death and taxes” and it rings true, since taxes are a part of your daily life whether you like it or not. You might even be paying taxes that you have no idea about. Direct and indirect taxes are the main types of taxes levied by the UK government. They are a very important source of revenue for the government since they have an impact on the economy. Both taxes are collected by the central and state governments via the HMRC (Her Majesty’s Revenue & Customs).
There is a general distinction between direct and indirect taxes, but how do the two types of taxes differ from one another and which taxes fall into each of the categories?
A direct tax is paid directly to the government by an individual or organisation. For example, a homeowner pays personal property taxes directly to the government, and a family pays its own income taxes. Direct taxes cannot be shared or passed onto other parties.
Direct taxes help to reduce inequalities and are therefore seen as being more progressive than indirect taxes.
The amount of direct tax each person pays depends on their wage. The UK tax system, like many, tries to achieve both horizontal and vertical equity. Income tax is calculated as a percentage of earnings.
Here are some examples of direct taxes:
If you earn income or work in the UK, you have to pay UK income tax. There are different rules, however, depending on whether you are a UK resident or not, since residents must pay income tax on any earnings made worldwide, and non-residents are solely taxed on their UK-based income.
Most individuals who earn income from an employer pay income tax and National Insurance contributions are deducted from their pay cheques automatically. Many employers use a PAYE (Pay As You Earn) system to ensure the correct amount of tax is calculated, before transferring the net amount.
Corporate tax (also known as “corporation tax” or “company tax”) is the company equivalent of income tax, but for registered companies. The difference is that companies don’t have a personal allowance so they start paying taxes when they are profitable. The corporate tax rate in the UK is 19%.
This tax is a tax on the estate (meaning property, money, and possessions) of someone who has died. You won’t need to pay inheritance tax if the estate’s value is below £325,000 or if you leave everything above this £325,000 threshold to your spouse, civil partner, a charity, or a community amateur sports club. Nevertheless, you still need to report it to HMRC. The standard inheritance tax rate is 40% and is only placed on the part of the estate that’s above the threshold.
Capital Gains Tax
This is a tax on profit made when you sell something, which has increased in value. The tax is calculated depending on the price of the item when it was first bought, and the price it is worth at the point of sale. An example would be if you bought a vase for £1,000 and sold it later for £15,000. You’ve made a £14,000 profit, which will then be taxed according to the capital gains tax, as it is above the capital tax-free allowance of £11,700.
In brief, if your gains in a year are under your tax-free allowance then you are exempt from capital gains tax.
Indirect taxes are collected by someone in the supply chain (i.e. a producer or retailer) and then paid to the government. The consumer essentially pays the tax by paying more for a product, since the tax is added on top of the price. The difference therefore between direct and indirect taxes is that in the case of direct taxes, the individual pays the tax directly to the government, but when it comes to indirect taxes, the individual pays the tax to someone else, who then pays it to the government.
Examples of indirect taxes include landfill tax, fuel duties, import duties, and tobacco duties. When it comes to harmful products such as cigarettes, the level of indirect taxes is higher to discourage customers from buying these products, which in turn benefits society.
Here are some examples of indirect taxes:
Value Added Tax
The government levies value added tax (VAT) on the sale of goods and services. If you have an annual turnover of more than the current VAT threshold (£85,000), you must register for VAT and complete a quarterly VAT return and send it to HMRC. Once you’ve registered your business for VAT, you must start to charge VAT, which is currently at the rate of 20%, on your goods and services.
These are imposed on imported and exported products, but many customers often aren’t aware of the taxes imposed on imported and exported goods. Everyone pays them regardless of how much they earn. Manufacturers and merchants often charge customers higher prices to make up for the fact that they have to pay taxes when buying or selling raw materials or finished products.
These kind of taxes are paid on top of your usual landfill fees if your business gets rid of its waste using landfill sites. You need to get a permit as well as register within 30 days of setting up your business. The amount of tax you pay depends on the weight. The lower rate (for inactive waste e.g. soil or rocks) is £2.80 per tonne and the standard rate is £88.95 per tonne. There are a few exemptions from the tax including pet cemeteries, inactive waste for filling quarries, dredging activities, and quarrying and mining activities.
Excise taxes are duties that are paid on manufactured goods, which are levied at the manufacturer end, rather than at the point of sale. Since the excise tax is considered an indirect tax, the producer or manufacturer has the right to increase the cost of the manufactured item whenever they wish. Goods liable to excise duty include beer, cider, tobacco products, hydrocarbon oil, and biofuels.