Are you self-employed? Or are you a partner in a trading partnership? If you are, you should be aware of the proposed changes to the tax basis period for unincorporated businesses.
HM Revenue & Customs (HMRC) is proposing to change the way that unincorporated businesses are taxed, moving from a ‘current year’ basis to a ‘tax year’ basis. For affected businesses (those that don’t have a Year End between 31 March and 5 April), this could mean a much larger tax bill for the 2023/24 tax year.
So, when are these changes coming in? And what will the potential impact be for sole traders and partners?
What Does a Change in the Base Period Mean?
Self-employed people and partners in trading partnerships generally prepare accounts to the same fixed date each year. This is known as the ‘basis period’. For tax purposes, profits are currently taxed in the tax year in which the basis period ends.
For example, if your business has a 30 June period end, profits for the year to 30/06/2022 would be taxed in the 2022/23 tax year ending 5 April 2023. The tax would then be payable by January 2024.
From the 2024/25 tax year, all businesses will be taxed on a tax year basis (with 31 March to 5 April being treated as coterminous with the tax Year End). This means that they will pay tax for the 2024/25 year on profits earned in that year.
Why is That Important?
In effect, it means that all self-employed businesses and partners with any other Year End will be required to pay tax earlier than they would previously have done. And this could have a serious impact on tax planning and cash flow.
The 2023/24 tax year is a transitional year in which all affected businesses will be taxed on the profits for their basis period as now, PLUS the tax on their profits from the end of that basis period up to 31 March/5 April 2024.
Let’s take a 30th June business as an example. In the 2023/24 tax year you will be taxed on profits from 01/07/2022 to 31/03/2024. So, effectively, you’ll be taxed for 21 months instead of 12. The extra tax charged can be spread, but the change in base period will result in taxes being paid earlier than they are now.
Some of these businesses will have overlap profits carried forward in their Tax Returns. This will represent profits which were considered to have been taxed twice in their earlier years. That overlap profit can be deducted from the combined amounts being taxed in 2023/24.
Any further additional taxable profits may be spread over up to five years, starting with the 2023/24 tax year.
There is an option to choose for the spreading of profits not to apply and for them to be taxed in full in 2023/24. If your business stops trading before the transition profits have been taxed in full, any balance not yet brought into charge is taxed in the final year. The spreading of transition profits may mean that you have higher than usual tax bills for the next five years.
The change to the base period will simplify reporting requirements as the Making Tax Digital for Income Tax Self-Assessment (MTD for ITSA) changes are rolled out. (Please note that MTD for ITSA has been postponed until April 2026).
This change to the base period brings all other forms of income for individuals into account on a tax year basis, making the whole process easier to administer.
Talk to Us About the Proposed Changes to Your Accounting Period End
If the Year End for your business is not currently between 31 March and 5 April, you will potentially be taxed on more than a year’s profits in 2023/24.
Even with a facility to spread the excess, your tax bill will be higher and you could be forced into a higher marginal rate of tax – with all the negative impacts on your tax liabilities. This could be a very serious outcome if you’re not prepared for the changes.
For affected businesses, we can help you prepare forecasts of the likely impact and consider ways to ease the transition. The earlier you begin planning, the smoother the transition will be.