All Change for the self employed !
Chris Romans
EY Private Partner and Midlands Head of Tax - advising ambitious businesses and their owners and helping others succeed.
One of the measures included in the Finance Bill published on 4 November (clause 7 and Schedule 1) is the proposed reform of basis periods.
?The measures will be of interest to self-employed traders, including individuals with a profession or vocation, partners in trading partnerships, other unincorporated entities with trading income, such as trading trusts and estates and non-resident companies with trading income charged to income tax. The implications of these reforms should be considered alongside MTD Self-Assessment, which will be implemented in parallel and is expected to bring incremental UK tax reporting obligations.
?The legislation applies new basis period rules for trades (including professions and vocations) for the tax year 2024-25 and subsequent years. It also provides transitional rules for the tax year 2023-24. The legislation appears to be substantively unchanged from the draft appended to the?consultation document issued on 20 July?but with details being provided of the calculations needed for the 2023-24 transitional provisions and some non-standard scenarios being addressed (such as notional businesses - relating to a partner in a trading partnership with untaxed non-trading income - and farmer/creative artist averaging provisions).?
?Currently, tax returns filed by the self-employed and partnerships are based on a business's set of accounts ending in the tax year. The legislation removes the references to?basis periods so that it simply provides for tax to be charged on the full amount of the profits.?Accordingly, new rules provide for apportionment of profits to?tax years (new Section 7A to be introduced into ITTOIA 2005). Apportionment is to be done by reference to the number of days in each period, however the length of each period can be measured by a different method if it is both reasonable and used consistently. There are then rules addressing the position for businesses with accounting dates very close to 5 April to prevent these businesses having to apportion small amounts of profit, though these can be disapplied by election for a limited period.
Transitional rules
The legislation also introduces special rules for the transition year in 2023-24.
?New trades?: Part 5 of Schedule 1 to the Finance Bill provides that, where a trade starts in the tax year 2023-24 and does not cease in that year, the basis period for the tax year 2023-24 ends on 5 April 2024, without exception.
?Continuing trades?: Part 6 provides for the basis period for the tax year 2023-24 to begin immediately after the basis period for the tax year 2022-23 and end on 5 April 2024, without exception. It defines the standard part of this basis period as the first 12 months of the basis period. Where this ends before 31 March 2024, this is followed by a transition part of the basis period, which ends on the accounting date, if this is between 31 March and 4 April inclusive, or 5 April 2024 otherwise. If the transition part ends on an accounting date between 31 March and 4 April 2024 inclusive, the profits of the period following the accounting date and up to 5 April 2024 are treated as nil for the tax year 2023-24, and are instead treated as arising in the tax year 2024-25. This treatment can be disapplied by election, in which case there is a transition part which follows the standard part and ends on 5 April 2024.
?The legislation then provides that deductions allowed for overlap profit include a deduction that would be allowed on cessation if the trade ceased on 5 April 2024, or a deduction that was allowed, but not made, in an earlier tax year when there was a change of accounting date. Where there is no transition part of the basis period, a deduction is to be made for overlap profit when calculating the profits of the tax year 2023-24. Paragraph 70 then sets out the steps required to calculate the profits of the tax year 2023-24 where there is a transition part of the basis period.
?The legislation goes on to provide for the terminal trade loss relief rules to apply in relation to a loss, or the increase in a loss, made because of a deduction for overlap profit, as if the trade ceased on 5 April 2024. This means the carry-back of loss relief arising due to excess overlap relief in the transition year is extended from one to three years.
?Transition profits will be spread over five tax years. 20% of the transition profits is treated as arising and charged to tax in each tax year for four years, starting with the tax year 2023-24, with the balance treated as arising and charged to tax in the fifth tax year. If the trade ceases before all of the transition profits have been charged to tax, the balance is to be treated as arising and charged to tax in the tax year of cessation. However, it also possible for an election to be made to accelerate the taxation of any amount of the transition profits. Any additional amounts treated as arising as a result of an election reduce the amount of transition profits to be charged to tax in subsequent tax years.
?Response to consultation
In addition to the Finance Bill legislation, HMRC has also released a?summary of responses to the July Consultation Document. That document notes that the Government will treat any excess profits arising during the transition year as a one-off separate item of taxable income, rather than as part of a business’s normal trading income. This treatment will minimise the impacts on allowances and means-tested benefits that were raised during the consultation.
?The response document also notes that the Government will explore with stakeholders whether to introduce administrative or policy easements to minimise burdens caused by having to submit tax returns containing provisional figures, ahead of the transition year in 2023 to 2024.
?The options that the document notes are being considered are:
Impact on taxpayers
The?Budget Policy Paper?issued on 27 October 2021 acknowledged that this measure could adversely affect businesses with accounting dates not aligned with the tax year and their experience of dealing with HMRC as the change may require them to complete the additional tax admin tasks of estimating profits before accounts are finalised and apportioning profits into tax years. It went on to say that the Government is considering options to minimise these additional burdens for businesses. Some of those facing particular challenges would include large US inbound firms with 31 December year ends.
?The Policy Paper also drew attention to the one-off costs for taxpayers that could arise including familiarisation with the changes as well as updating software and guidance. These costs could also include one-off costs incurred by businesses who wish to move their accounting date to 31 March or to 5 April (to the extent that this is practical).?However, there will also be for new work and processes to estimate profit figures where necessary and costs in submitting amended returns to provide final figures after the filing deadline.
?Profits of property businesses: late accounting date rules
Separately, Clause 8 of the Finance Bill allows those with property businesses who draw up accounts to dates between 31 March and 4 April to treat the profits between the end of their accounts and the end of the tax year as falling in the following tax year. It also allows those with property businesses commencing after 31 March to treat the profits up to the end of the tax year as falling in the following tax year. This means they will no longer have to apportion small proportions of their profits between tax years for income tax purposes.