Although the Government’s reform to income tax basis periods has been deferred by a year, with 2023/24 now being the transitional year with full introduction in 2024/25, unincorporated businesses should start reviewing the implications now. 

Basis Period Reform means that a business’s taxable profit or loss for a tax year will no longer be based on the profits/losses for the accounting year end that falls into the tax year (for example a year end of 30 April 2021 is taxed in the 2021/22 tax year) but will be based on the taxable profit or loss arising in the tax year itself.

Such changes remove the basis period rules and the creation of overlap profits. Overlap profits occur usually in the first years of trading or if an accounting year end is changed. Due to current basis period rules the same profits can be taxed in more than one tax year. These duplicated profits can be deducted in a future year (overlap relief) when either the accounting year is moved closer to 31 March/5 April or on cessation. On transition to the tax year basis in 2023/24, businesses’ basis periods will be aligned to the tax year.

This will have implications for businesses which have chosen non 31 March/5 April year ends. 

For example, using an accounting reference date of either 31 May or 30 November:

31 May year end

30 November year end

Notes

1. Current year element
2. Transitional year element
3. Overlap relief (see above)

Where transitional year element profits exceed overlap relief there is the option to spread this element over five years.

These changes result in 22 months’ (31 May) or 16 months’ (30 November) worth of profit less overlap being taxed in the transitional 2023/24 tax year.

The farming industry faces further complications due to the impact Basis Period Reform could have on farmers’ averaging and hobby farming rules. Basis period reforms could adversely impact farming businesses who do not have a year end date of 31 March/5 April.  What can business owners do to help prepare for this impact?

• Identify the existing overlap profits. Your accountant should hold this information, but this may not be straightforward for taxpayers who were in business pre-self-assessment. For partnerships each partner has their own overlap figure.
• Review plans surrounding capital expenditure, diversification projects, succession planning, business cessation, partner retirement, saving for retirement via personal pension contributions; in particular the best timing for such events and whether to permanently change the year end date.
• Assess pros and cons of incorporation and running the business as a company. This may not be the best option for farmers as the benefits of farmer’s averaging will be lost.

HMRC is considering easements to alleviate the administrative burden that the new rules will create for businesses that do not align their year end date with the tax year.

For support with how best to prepare for these upcoming changes, get in touch with me at Neil.Steven@jcca.co.uk.