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corporation taxa DIRECT TAX levied by the government on the PROFITS accruing to businesses. A company's corporation tax is loosely based upon its profit for the accounting period as determined in the COMPANY'S PROFIT-AND-LOSS ACCOUNT. However, since firms use different methods for calculating DEPRECIATION of FIXED ASSETS to charge against revenues and so arrive at different PROFIT figures, the UK government establishes a standard scale of CAPITAL ALLOWANCES which all firms must apply to their fixed assets when computing taxable profit.
When a company pays dividends or makes other distributions of profit to shareholders, then it must also make a payment of advance corporation tax to the government, currently equal to one third of the dividend paid. This is an advance payment of corporation tax and can be offset by the company against its liability to mainstream corporation tax when this liability is assessed at the year end. Shareholders receiving a dividend are also treated as receiving a tax credit equal, at current rates, to one third of the dividend received. This tax credit is added to the dividend received to establish the shareholders' total taxable income. This imputation system, whereby the tax paid on distributed profits by the company is credited to the shareholders, avoids double-taxing the shareholders both on their company's profits and on their dividend distributions.
In the UK (as at 2005/06) the general corporation tax rate is 30% of taxable profits per annum, but there is also a ‘smaller companies’ corporation tax rate. No tax is payable on taxable profits up to £10,000 per annum and 19% on taxable profits over £10,000 up to a maximum of £300,000 per annum.
The level of corporation tax is important to a firm insofar as it determines the amount of aftertax profit which is available to it to pay out DIVIDENDS to shareholders or to reinvest in the business (see RETAINED PROFITS). See INLAND REVENUE.