A change that could mean higher tax bills for sole traders and partnerships

The procedure for assessing when trading profits are taxed is changing radically.

The change means a major overhaul for unincorporated businesses using anything other than 31 March or 5 April as their accounting date. Businesses with year ends between 31 March and 5 April, however, will not be affected.

Underlying period of assessment changes

The change is called basis period reform. Essentially, it means there’s a different time period underpinning the tax assessment. Using the new tax year basis, tax calculations will apportion accounting profits to the tax year (unless the accounting year ends between 31 March and 5 April). They will have no direct link to a business’ accounting year end.

Bringing profits into tax faster

Change starts in the new tax year, 6 April 2023. 2023/24 is a transition year, in which a longer period of profits falls to be taxed. Rather than assessing to tax just the profits for the 12 months of the usual accounting year, profits for the period to 5 April 2024 are also included. In other words, the timescale for taxing those particular business profits is accelerated. Many businesses will benefit from the automatic application of what is called spreading relief, which means that 20% of the ‘additional’ transitional profit will be taxed in 2023/24, with the balance spread over the following four years. Provisions exist to minimise the impact on benefits and allowances, such as liability for High Income Child Benefit Charge, and we can advise on the likely impact in your circumstances.

How it works

Telemachus Takeaway uses 31 December as its year end. To enter the new tax year basis, in the transition year 2023/24, it’s assessed on these profits (assuming use of spreading relief):

• profits from 1 January 2023 (its accounting date in 2022/23) to 31 December 2023 (the ‘standard’ part) plus
• profits from 1 January 2024 to 5 April 2024 (the ‘transition part’): 20% is charged in 2023/24, and the balance spread over the following four years.

In calculating the transition part, businesses will be allowed to deduct any overlap relief for historic profits taxed twice on commencement of trade, or change of accounting date under the current basis period rules. Although the default is to spread the transition part over five years from 2023/24 (as in the example above), it will be possible to elect to bring profits into charge sooner. This calculation can be complex, particularly in situations where there is a loss.

Permanent change

Quite apart from the issue of potentially higher tax bills in the shorter term for businesses whose year ends do not fall between 31 March and 5 April, the new basis of assessment brings permanent change to procedure.

With effect from 2023/24, taxable profits for such businesses will have to be calculated by apportioning profits for the accounting periods either side of the tax year. To do so, accounts preparation will need to follow swiftly at the end of the accounting period. The use of provisional figures, followed by the filing of amendments, will be required where year ends do not permit accounts to be finalised before tax returns are submitted. The issue will be most acute for businesses with year ends later in the calendar year, such as those with accounting dates after 30 September.

Meeting the challenge

The change is likely to add considerably to the admin burden for unincorporated businesses without a year end between 31 March and 5 April. Changing the accounting year end to align with the tax year may be advantageous in some circumstances. Many businesses may also benefit from planning around cash flow to meet higher tax bills. We should be pleased to discuss the new system with you, and help you plan how best to meet the challenge.