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Basis Period Reform – for self-employed individuals and all partnerships/partners

08 Apr 2022

New legislation taking effect in 2023/24 will affect non-corporate trading businesses that prepare accounts to a date other than 31 March or 5 April. So, if you work with sole traders preparing accounts to 30 June (for example) or partnerships preparing accounts to, say, 31 December, read on!

The legislation, contained at Schedule 1 of Finance Act 2022, alters how the taxable profits of accounting periods are matched into tax years for the purposes of self-assessment profit reporting and income tax calculation.

Current year basis

Of course, at the moment, we use current year basis and, referring to the example dates mentioned above, when preparing self-assessment tax returns for 2021/22, the 30 June 2021 and 31 December 2021 year ends would have been used as the ‘basis of assessment’ for 2021/22 trading profits (assuming that these businesses were not starting, ending or changing year-end).

Tax year basis

From tax year 2024/25 onwards, a tax year basis of assessment will apply. This is not a requirement to prepare accounts to 5 April each year (although a number of traders will now inevitably choose to do so – see the basis period tools referred to at the end of this article) but the legislation now requires apportionment of the tax adjusted results from each accounting period into tax years.

So, for example, the sole trader preparing accounts to 30 June will need to take the tax adjusted results for 30 June 2024 and 30 June 2025 and:

  • Calculate 86/366ths of the 30 June 2024 tax adjusted results; and
  • Add 279/365th from the 30 June 2025 tax adjusted results,

to create a tax adjusted profit/loss figure for the year to 5 April 2025.

Useful link – HMRC have recently provided guidance on this process – click here to see it.

Of course, in some cases, the self-employed individual will not be able to finalise the figures that need to be included in their Self-Assessment tax return by the filing date, which remains as 31 January following the tax year in question. They may need to submit provisional figures and then build in time (or pay their agent) to amend them later. Individuals affected in this way will likely want to talk about options for changing their accounting year-end (see below).

For the latest developments on handling provisional figures, please see our separate blog here.

Interaction with Making Tax Digital for Income Tax

Our current understanding is that these basis period changes will continue to be apply from 6 April 2024 (with a transition in 2023/24 – see below), despite Making Tax Digital for Income Tax being deferred from a 6 April 2024 start date to 6 April 2026.

This will at least allow more time to explore how to reconcile MTD for Income Tax quarterly reports with the final taxable profit figures for a tax year (potentially taken from two accounting periods)!

Transition in 2023/24

The tax year 2023/24 will be a transitional year where, in addition to the accounting results that are brought into account under the normal ‘current year basis’ (referred to in Finance Act 2022 as the ‘standard component’), a ‘transitional component’ is also brought into charge to represent the period from the end of the current year basis period to 5 April 2024. Overlap profits are then deducted in full.

Spreading rules apply where the transitional component exceeds the amount of available overlap relief. These rules will automatically spread the ‘excess profits’ evenly over 5 years, starting with 2023/24, unless the self-employed individual elects to accelerate the spread or ceases trading (in which case all remaining sums come into charge).

For example, the sole trader referred to above would compute their 2023/24 results by:

  • Bringing in the tax adjusted results from 30 June 2023, say
  • Adding 280/366th of the 30 June 2024 tax adjusted results, say
  • Deducting overlap relief, say
  • Deducting profits spread into the next 4 tax years*

*The ‘excess profits’ would be computed as £15,000 (transitional component) – £5,000 (overlap) = £10,000 and spread over 5 years. The first £2,000 would be treated as arising in 2023/24, leaving £8,000 spread into the next four tax years.

Useful link – HMRC’s guidance on the transitional rules is here – click here.

Useful link – HMRC’s guidance on spreading is here – click here.

If a loss arises as a result of this process, extended loss relief rules apply to any element attributable to the overlap relief deduction. These rules effectively deem that overlap related part of the loss to be ‘terminal’, effectively facilitating a 3 year carry back option. However, as the trade is continuing, carry-forward loss relief options also remain.

Useful link – HMRC’s guidance on loss relief in these circumstances is here – click here.

Useful Resources from 20:20 Innovation

The following training course will help you and your team get ready for these changes:

Exclusive resources for 20:20 platinum members (and subscribers to Tax, Tips and Tools)

Your Tax Tips and Tools product includes tools especially designed to help you advise your clients on the impact the basis period change will have on them and whether they should change year end. There is not a single or simple answer to this question as it depends on the client, commercial reasons for their year-end and their recent and expected financial results. Without doubt, these tools are a time saver for the proactive advisor.

The relevant tools are:

  • Basis Period Reforms Toolkit – a comprehensive model of matters to consider NOW, and the calculations on the change of basis periods.
  • Basis Period Reforms Tracker – linked to the above exercise, this is a tracking tool to list those that will be affected by the reforms and the figures needed to perform the change of accounting date exercise.

Become a member and make the most of these tools book a demo or find out more about becoming a 20:20 member here.