What is Marginal Relief in UK Corporation Tax
Marginal relief has been reintroduced as part of changes to Corporation Tax from 1 April 2023. These changes affect how much tax many UK resident companies must pay. This guide breaks it down in simple terms to help businesses understand what it means for them.
What is Marginal Relief?
Marginal Relief helps businesses that earn profits between £50,000 and £250,000 by giving them a gradual tax increase instead of a sudden jump. If your company’s profits are in this range, you won’t move straight from the 19% small profits rate to the full 25% main rate. Instead, Marginal Relief lets you pay a bit less than the full rate, easing the rise in Corporation Tax.
This relief is designed to support growing companies by making the tax increase more manageable as profits go up. It’s a fair way to avoid paying too much tax too quickly as your business gets bigger.
Corporation Tax Rates Overview
Currently, Corporation Tax is charged at different rates depending on the level of profit your company makes:
- 19% for companies with profits up to £50,000 (small profits rate)
- 25% for companies with profits over £250,000 (main rate)
- Marginal Relief applies to profits between £50,000 and £250,000
This setup means if your company earns profits in the middle range, you don’t go straight to paying the full 25% rate. Instead, Marginal Relief allows your tax rate to rise gradually.
Who Can Claim Marginal Relief?
Marginal Relief is designed to assist UK resident companies in reducing their Corporation Tax liabilities when their taxable profits fall between £50,000 and £250,000. This relief provides a gradual increase in the effective tax rate, easing the transition from the small profits rate to the main rate.
To be eligible for Marginal Relief, a company must:
- Be a UK resident company: Only companies that are resident in the UK for tax purposes can claim Marginal Relief.
- Have taxable profits between £50,000 and £250,000: If a company’s taxable profits fall within this range, it may qualify for Marginal Relief.
- Not be a close investment holding company: Companies that primarily hold investments and are controlled by a small number of individuals (typically five or fewer) are generally excluded from claiming Marginal Relief.
It’s important to note that these thresholds are proportionately reduced if the accounting period is shorter than 12 months or if the company has associated companies. For instance, if a company has two associated companies (making a total of three associated companies), the lower and upper profit limits are divided by three, resulting in adjusted thresholds of approximately £16,667 and £83,333, respectively.
Companies can use the HMRC Marginal Relief calculator to determine the exact amount of relief they are entitled to, ensuring accurate computation of their Corporation Tax bill.
Who Cannot Claim Marginal Relief?
Certain entities are excluded from claiming Marginal Relief, regardless of their profit levels. These include:
- Non-UK resident companies: Companies that are not resident in the UK for tax purposes are not eligible for Marginal Relief.
- Close investment holding companies: These are companies that primarily hold investments and are controlled by a small number of individuals. Such companies are excluded from claiming Marginal Relief and are subject to the main rate of Corporation Tax, regardless of their profit levels.
- Companies with profits exceeding £250,000: If a company’s taxable profits, including distributions from unrelated, unassociated companies, exceed £250,000, it is subject to the main Corporation Tax rate of 25% and cannot claim Marginal Relief.
Companies falling into these categories should plan accordingly to meet their Corporation Tax obligations.
How to Calculate Marginal Relief
Calculating Marginal Relief involves a specific formula:
Marginal Relief = (U – A) × (N ÷ A) × F
Where:
- U = Upper limit (£250,000)
- A = Augmented profits (taxable profits plus certain distributions)
- N = Taxable total profits
- F = Marginal Relief fraction (3/200 for the financial year 2023)
Example Calculation:
Suppose a company has taxable profits of £100,000 with no distributions:
- Augmented profits (A) = £100,000
- Taxable total profits (N) = £100,000
Applying the formula:
Marginal Relief = (£250,000 – £100,000) × (£100,000 ÷ £100,000) × (3/200)
= £150,000 × 1 × 0.015
= £2,250
Therefore, the Corporation Tax liability is:
- 25% of £100,000 = £25,000
- Less Marginal Relief of £2,250
- Total tax payable = £22,750Quality Company Formations
This results in an effective tax rate of 22.75%.
For ease, HMRC provides a Marginal Relief calculator to assist in determining the exact relief applicable.
Need help with your Corpration tax? Our expert accountants make it easy.
Impact of Associated Companies
The presence of associated companies directly affects the thresholds for Marginal Relief. Specifically, the lower and upper profit limits (£50,000 and £250,000, respectively) are divided by the total number of associated companies plus one. This adjustment ensures that companies with multiple associated entities are taxed appropriately.
Definition of Associated Companies:
A company is considered associated with another if, at any time during the accounting period, one company has control over the other, or both are under the control of the same person or group of persons. Control is defined as having the power to direct a company’s affairs, typically through ownership of shares or voting rights.
Adjusted Thresholds Example:
If a company has two associated companies, the total number becomes three (2 associated companies + 1). Consequently, the thresholds are adjusted as follows:
- Adjusted lower limit: £50,000 ÷ 3 ≈ £16,667
- Adjusted upper limit: £250,000 ÷ 3 ≈ £83,333
This means that the company will only benefit from Marginal Relief if its taxable profits fall between these adjusted limits.
Impact on Corporation Tax Calculation:
The reduction in thresholds due to associated companies can lead to a higher effective rate of Corporation Tax. Companies with multiple associated entities may reach the upper limit more quickly, resulting in a reduced Marginal Relief benefit. Therefore, it’s crucial for companies to consider the number of associated companies when planning their tax strategies.
Practical Implications for Businesses
Applying Marginal Relief can have several practical benefits for businesses:
- Reduce your Corporation Tax liabilities: By claiming Marginal Relief, companies can lower their overall tax bill, freeing up resources for other business activities.
- Improve cash flow management: Lower tax payments can enhance cash flow, allowing for better financial planning and investment opportunities.
- Encourage reinvestment and growth: Savings from reduced tax liabilities can be reinvested into the business, supporting expansion and development initiatives.
To maximise these benefits, companies should assess their profit levels and corporate structure. Utilising tools like the HMRC Marginal Relief calculator can aid in accurate tax planning.
Common Mistakes to Avoid
When dealing with Marginal Relief for Corporation Tax, several common errors can lead to inaccurate tax calculations and potential compliance issues. Being aware of these pitfalls can help ensure accurate tax reporting and compliance.
1. Overlooking the Impact of Associated Companies on Thresholds
Failing to account for associated companies can significantly affect the calculation of Marginal Relief. The presence of associated companies reduces the lower and upper profit limits proportionately. For example, if a company has two associated companies, the thresholds are divided by three (the company itself plus two associates), resulting in adjusted limits of approximately £16,667 and £83,333. Neglecting this adjustment can lead to incorrect eligibility assessments and tax computations.
2. Incorrectly Calculating Augmented Profits
Augmented profits include taxable total profits plus certain distributions from non-group, unassociated companies. Misclassifying or omitting these distributions can result in underestimating profits, leading to an incorrect application of Marginal Relief and potential underpayment of Corporation Tax.
3. Failing to Adjust Thresholds for Short Accounting Periods
If a company’s accounting period is shorter than 12 months, the £50,000 and £250,000 thresholds must be proportionately reduced. Overlooking this adjustment can cause errors in determining eligibility for Marginal Relief and miscalculating the Corporation Tax liability.
4. Not Utilizing Available Tools Like the Marginal Relief Calculator
HMRC provides an online Marginal Relief calculator to assist companies in accurately computing their relief. Not using this tool can increase the risk of manual calculation errors, especially given the complexity of the Marginal Relief formula.
5. Misclassifying Allowable Expenses
Incorrectly identifying allowable expenses can lead to inaccurate taxable profit calculations. For instance, failing to claim legitimate business expenses or erroneously including non-deductible items can distort the profit figure, affecting the Marginal Relief computation and resulting in an incorrect Corporation Tax bill.
6. Misunderstanding the Effective Tax Rate
Some businesses mistakenly believe that profits within the Marginal Relief band are taxed at a flat rate. In reality, the effective tax rate increases gradually from 19% to 25% as profits rise from £50,000 to £250,000. Misunderstanding this can lead to incorrect tax planning and budgeting.
Avoiding these errors ensures accurate tax reporting and compliance, helping businesses to effectively manage their Corporation Tax liabilities.
Conclusion
Marginal Relief serves as a valuable tool for UK resident companies to manage their Corporation Tax obligations effectively. By understanding eligibility criteria, calculation methods, and the influence of associated companies, businesses can make informed decisions to optimise their tax positions. Utilising resources like HMRC’s Marginal Relief calculator and seeking professional advice when necessary can further enhance tax efficiency.
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