19 Apr 2023
For many years now, unincorporated businesses have been taxed on the profit shown in their accounts for the accounts year ending in the tax year (except in opening and closing years, where there are special rules). This has now changed.
New rules, known as Basis Period Reform (BPR), are designed to tax unincorporated businesses on the “actual” profits of the tax year. Businesses with a year-end of 5 April are already taxed on this basis. Businesses with year-ends from 31 March to 5 April will be treated under BPR as if their accounts have been made up to 5 April. Businesses with any other year end will, however, be faced with the task of time-apportioning two years’ accounts in order to ascertain the profits for the tax year.
The old rules apply for tax years up to and including 2022/23.
The new rules will apply from the 2024/25 tax year.
The year 2023/24 will be a ‘transitional year’, during which affected businesses will shift from the old rules to the new rules. The rules for this transitional year are complex.
Mr Wood runs a carpentry business as a sole trader.
It was established on 1 October 2018, and Mr Wood decided he would run his accounting period from that date, meaning he generated six months of overlap profits at that point.
When it comes to Basis Period Reform, Mr Wood has two options:
Mr Wood also has overlap profits of (£5,000) from when he established his business.
Mr Wood decides to change his accounting period to align with the tax year. For the period to 30th September 2023 his assessable profit is £42,000 and for the period from 1st October to 5th April assessable profit is £21,000.
In the 2023 to 2024 tax year total accessible profits will be £45,200 calculated as follows:
|Assessable profits from 1st October 2022 to 30th September 2023||£42,000|
|Assessable profits for the period 1 October 2023 to 5th April 2024||£21,000|
|Less overlap relief (see notes below)||(£5,000)|
|Transition profit for the period 1st October 2023 to 5th April 2024||£16,000|
|Transitional profit assessed over the next 5 years (see further information below)||£3,200|
|Total assessable profits in the 2023 to 2024 tax year||£45,200|
(Note that the legislation requires apportionment on a daily basis, but we have used months for simplicity in this example.)
Although overlap relief should be reported on the taxpayer’s tax return and carried forward annually, HMRC acknowledges that this information is sometimes missing or inaccurate. So it is important to start checking and validating these numbers now.
Transition profits are spread over 5 years (but a business can choose to spread unevenly to take more transitional profit in a particular year). There are special rules where losses arise in the transitional year. It is crucial for businesses to proactively plan and comprehend the implications of the transitional arrangements. This includes understanding the available options to effectively manage and meet any potential increase in tax liability resulting from the new rules. Taking proactive measures now can help businesses prepare and ensure they are financially equipped to handle the impact of the changes.
The transition to the new tax year basis may result in accelerated tax liabilities for many businesses, with 23 months of profits being taxed in the 2023/24 tax year for traders with a year-end of 30 April. This may result in cash flow challenges.
Businesses that prepare accounts to a date later in the tax year will be particularly affected by the new rules. For instance, those with a year-end of 31 January currently have 12 months to finalise their figures. However, going forward, they will almost certainly need to use provisional figures. For example, in the 2024/25 tax year with a filing deadline of 31 January 2026, they will be assessed based on 10 months profit from the year ended 31 January 2025, and two months profit from the year ended 31 January 2026. The accounts for the year ended 31 January 2026 will not however have been prepared by the filing deadline of 31 January 2026 and an estimate of the assessable profit will be required.
If you’d like to hear more about the changes to BPR, we recently hosted a webinar where both Paul Aplin OBE and Paul Lodder discussed the main talking points and how you can better support your clients. Click here to watch the recording.