Is tax due on a payment for cancelled work?

carrotflowers

Hi all

I was in the very unusual situation last year of being plucked from obscurity by a big ad agency to make an advert for one of their clients. I am a small time amateur theatre maker and it was very out of the blue. I got an agent to negotiate a fee of £12,000 for myself and a team to make the advert.

The client changed their mind at the last minute, just before we began preparations in earnest (before this it was just a handful of meetings and some planning/producing).
The ad agency paid me a 50% cancellation fee for the project falling through so late in the day. I absolutely didn't do £6000 worth of work, so took the payment to be, in essence, compensation and an apology for the late notice cancellation of the work (rather than payment for work undertaken up to that point).

I also work full time and already pay tax through PAYE.

My question is, do I owe income tax on this apology payment for the cancelled project, if I can argue that it's compensation as opposed to income for work I have undertaken?

Thank you.

[Deleted User]

It's income and as such, you need to pay tax on it.

Jeremy535897

Most likely income tax is due:

https://www.gov.uk/hmrc-internal-manuals/business-income-manual/bim35530

Grumpy_chap

carrotflowers said:

Hi all

I was in the very unusual situation last year of being plucked from obscurity by a big ad agency to make an advert for one of their clients. I am a small time amateur theatre maker and it was very out of the blue. I got an agent to negotiate a fee of £12,000 for myself and a team to make the advert.

The client changed their mind at the last minute, just before we began preparations in earnest (before this it was just a handful of meetings and some planning/producing).
The ad agency paid me a 50% cancellation fee for the project falling through so late in the day. I absolutely didn't do £6000 worth of work, so took the payment to be, in essence, compensation and an apology for the late notice cancellation of the work (rather than payment for work undertaken up to that point).

I also work full time and already pay tax through PAYE.

My question is, do I owe income tax on this apology payment for the cancelled project, if I can argue that it's compensation as opposed to income for work I have undertaken?

Thank you.

I agree with other posters that this is earned income (even if you dud very little to earn it) and therefore income tax will be due. 

I assume you operate as sole-trader and not via a Ltd Co.  However, this is possibly easier understood if considered as a Ltd Co:

• Carrotflowers Ltd secured a contract with Ad Agency Ltd.  
• Ad Agency Ltd cancels the contract.
• Carrotflowers Ltd invoices Ad Agency Ltd the partial payment due on cancellation as per the contract.
• Ad Agency Ltd pays Carrotflowers Ltd.
• This payment now exits in the accounts of Carrotflowers Ltd as regular turnover.
• Carrotflowers Ltd will either incur an increased Corporation Tax bill to reflect this additional balance sheet, or the amount received is paid as business expenses (staff salary subject to income tax and NI as per any other earned income).
• Either way, the payment received by Carrotflowers Ltd has been subject to taxation in the same way as any other income would be - there is no special treatment simply that this business income relates to cancelled work.

Jeremy535897

The reason I quoted the reference to the BIM is because it may well be that this out of the blue contract represented almost the entire value of the business, the cancellation fee may be capital, as the manual says:
"If the agreement is one the loss of which would cripple the trade, such expenditure may be capital."
It is an interesting point, because on quantum, it looks like capital, but on destruction of the business, it's hard to see this applying.

As we are dealing with Carrotflower rather than Carrotflower Limited, the capital gains tax exemption may be in point if it could successfully be argued to be capital. The disclosure would have to be carefully thought about. 

Grumpy_chap

Jeremy535897 said:

The disclosure would have to be carefully thought about. 

Any fees for professional advice need to be less than the income tax that would be liable if the £6k was treated in a more straightforward manner.

Jeremy535897

Grumpy_chap said:

Jeremy535897 said:

The disclosure would have to be carefully thought about. 

Any fees for professional advice need to be less than the income tax that would be liable if the £6k was treated in a more straightforward manner.

Indeed, but if tax and class 4 NIC at 29% in total apply, that is potentially £1,740.