Question

What is the definition of “Trade” and list the criteria of the Badges of Trade for Self Employed.

Business Taxation

Answer 1

A trade or business is generally an activity carried on for a livelihood or in good faith to make a profit. The facts and circumstances of each case determine whether or not an activity is a trade or business. The regularity of activities and transactions and the production of income are important elements. You do not need to actually make a profit to be in a trade or business as long as you have a profit motive. You do need, however, to make ongoing efforts to further the interests of your business.

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Statements to determine trading

If you can answer 'yes' to any of the following statements then you are probably trading:

• I make regular sales
• I buy items so that I can sell them again to make a profit
• I sell through an online shop with an internet auction site
• I advertise my services
• I regularly attend car boot sales or similar to buy and sell items for my personal profit
• I repair or modify items or split things into smaller quantities to make more profit on them
• I sell things quickly to obtain a profit (although I deliberately hold onto some items if there is more chance of making a profit from them in the longer term)
• I am already running a business and am selling items related to that business (these sales should already be included in your accounts)
• I have borrowed money to pay for what I am selling
• I am making goods and selling them for a price that covers the cost and marked up with the intention to make a profit (as opposed to selling items as a result of a hobby and only wanting to cover your costs)

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In 1955 a report by the Royal Commission on the Taxation of Profits and Income reviewed case law and identified six badges of trade. This was the starting point and as you can imagine there has been some development in the area supplemented by case law. HM Revenue & Customs (HMRC) now lists nine badges of trade:

• profit seeking motive
• the number of transactions
• the nature of the asset
• existence of similar trading transactions or interests
• changes to the asset
• the way the sale was carried out
• the source of finance
• interval of time between purchase and sale
• method of acquisition.

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criteria of the Badges of Trade for Self Employed

1. Subject matter

   – anything can be trading stock but some items are more likely to be so than others.

   For example, the purchase and resale of a substantial number of toilet rolls is considered trading.

2. Length of period of ownership

   – normally, trading stock is held for a short period of time.

   For example an item that is held for less than 12 months will be considered trading stock, but an item that is held for more than 12 months is likely to be considered a capital asset.

3. Frequency of similar operations

   – the more often a deal takes place, the greater the assumption that it is a disposal of trading stock.

   For example if cars are bought and sold throughout the year, this will be considered to be the trading of cars; however if there is a one time sale of one car, then that is likely to be considered to be the sale of a capital asset.

4. Subsequent work

   – change of character of an asset to make it more saleable is likely to be indicative of trading.

   For example, buying bulk marble for flooring and breaking it down into smaller saleable units to use for individual floors, will be considered trading. Also, advertising and making the item more marketable may be indicative of trading.

5. Circumstances

   – sudden emergency, for example the urgent need of cash can negate the presumption of trading.

   For example selling a vintage car from a collection of vintage cars because of the urgent need of cash will be considered to be the sale of capital assets.

   This is because the motive is not to trade cars, it is to obtain cash quickly.

   If the sale is to pay off a business loan then this would be considered to be trading and subject to income tax on the profit.

6. Motive

   – intention of making a profit is necessary for trading.

   For example, selling cars at a loss just to get immediate cash will not be considered trading, but waiting to sell cars at a price that will earn a profit will indicate trading.