The basis period reform will affect unincorporated businesses – including sole traders, the self-employed and trading partnerships – whose accounting periods do not align with the tax year.
The 2023/24 tax year will act as a transitional period, with the new ‘fiscal year’ system taking effect from 6 April 2024, for 2024/25.
In 2024/25, businesses will be taxed on profits earned in the actual tax year – i.e., the 12 months to 5 April.
The new ‘tax year basis’ was originally supposed to brought in a year earlier, but the Government announced a delay in September 2021 to give those affected more time to prepare.
For those impacted, the first basis period will amount to more than 12 months and so resulting tax bills will likely be larger. HMRC are offering transitional relief, enabling taxpayers to spread this particular liability across the following five tax years.
Accounts will either be drawn up to cover the entire period, or two separate sets of accounts will be used; one set up to the year end, and a proportion of the following year’s accounts.
Tax year basis of assessment for sole traders, partnerships, and LLPs
It is not compulsory that you adjust your accounting period, in line with basis period reforms and, indeed, it would be wise to consult your accountant before deciding whether to do so.
If your accounting period remains unchanged, you will need to apportion profits/losses accordingly.
For example, a sole trader preparing accounts to 30 September annually will need to apportion profits/losses for 2024/25 as follows:
- 6/12ths of profits/losses to 30 September 2024
- 6/12ths of profits/losses to 30 September 2025
This will leave you with an adjusted profit/loss figure for the tax year ending 5 April 2025.
Despite the changeover, reliefs, allowances, and tax band thresholds will remain unchanged and will not be pro-rated.
As a result, some taxpayers could move into higher tax bands, while also reducing their ability to benefit from various annual reliefs and allowances during the transition year.
Businesses with year ends not aligned with the tax year will also have a much shorter time between when they generate profits and when tax is due, which could have cash flow implications.
Basis period reform and MTD for ITSA
The reason for the change is rooted in the mandation of MTD for Income Tax Self-Assessment on 6 April 2024.
According to HMRC, if you are required to comply with the requirements of MTD for ITSA, this will be easier if you have adjusted your accounting period to match up with the tax year.
This is because MTD for ITSA will require taxpayers to file an ‘end of period statement’ and make corresponding tax payments, by 31 January following the end of the tax year.
Therefore, if you have not completed accounts for the next period by the time you file the return, the statement and payments will be made only on provisional figures.
At some point, an amended return will be needed. HMRC are considering the best means of achieving this.
Key questions to consider
For the many unincorporated businesses that already have year-ends aligning with the tax year, nothing will change.
However, for those with year-ends that are not synchronised with the tax year, there are several considerations and careful tax planning may be necessary.
Early preparation is key when changes as significant as this come along. Consider the following:
- Whether or not it is appropriate to change your accounting period
- Impact of basis period reform on your cash flow
- Opportunities to undertake tax planning
- Practicalities of submitting provisional and amended returns under MTD for ITSA
How can George Hay help?
We are keen for unincorporated businesses to understand if and how they will be impacted by basis period reform, and we are already having these conversations with those of our clients who will be affected.
Sole traders, partnerships and LLPs face potentially larger tax bills so, to discuss the reforms with us and to garner a clearer understanding of how they may impact you, get in touch with us at one of our offices in Cambridgeshire, Bedfordshire, and Hertfordshire, today.
Link: Basis period reform