From the 2024/25 tax year, HMRC is changing the way trading profits are allocated to each tax year for sole trade and partnership businesses. It is known as the ‘basis period reform’ and will influence future tax payments for many business owners.
We have already provided individual notifications to our clients on how they will be affected, and continue to review and manage the situation on their behalf.
If you operate as a sole trader or partnership and you do not have an accounting year end that aligns to the tax year (5 April or 31 March), you will need to be aware of the changes. We are pleased to share this useful summary to help you understand what is happening.
What is a basis period?
The ‘basis period’ is the 12-month period for which a sole trader or partnership is charged tax on their profits. You may currently think of this as your “accounting year end” but for tax purposes this is known as the “basis” which gives them the ability to calculate your tax liabilities.
How it will change
From the 2024/2025 tax year, HMRC will change to using a ‘tax year basis’, with business profit for each tax year aligned to the tax year itself.
How it is now
At present HMRC uses what it calls the ‘current year basis’ to allocate trading income to a tax year.
Under this basis, your business profit or loss is based on the accounting year end that falls within the tax year.
If your year end accounting date is 30 April, your business profits taxable for the tax year ended 5 April 2023 (2022/2023 tax year) are your profits from 1 May 2021 to 30 April 2022.
How the change will be made
HMRC has announced that there will be a ‘transitional’ (catch up) year for any sole traders or partnerships that do not use a 31 March or 5 April accounts year end.
During this ‘transitional year’ your taxable profits will be made up of two parts: the ‘standard part’ and the ‘transitional part’.
For example, with a year end accounting date of 30 April:
- 12 months of trading profits ended in the transitional year. So 12 months to 30 April 2023.
2. 11 months of the 30 April 2024 accounts (1 May 2023 to 5 April 2024)
2a. Relief for ‘overlap’ profits brought forward (where applicable).
How HMRC will help reduce the financial impact
This reform will increase the 2023/2024 tax bills for affected business owners.
To reduce the financial impact HMRC will provide the option for these owners to spread the ‘transitional profit’ produced by the above calculation as they wish over a maximum of five years, and be taxed accordingly.
Entitlement to certain tax reliefs and benefits such as personal allowance, child benefit and pension contributions will not be affected.
Getting the right advice
Make sure your accountant continues to review the impact of the changes for you when completing your accounts, in the lead up to the changes being made by HMRC.
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