Basis period reform: it could impact your tax bill
Tax year 2023/24 brings important adjustments to the way tax liability is calculated for unincorporated businesses. The change is called basis period reform.
Do I need to know about this?
Yes, if you operate as a sole trader or in partnership, and your accounting year end is anything other than 31 March or 5 April (or any date between the two). Basis period reform will affect all unincorporated businesses using year ends different from these.
What's actually happening?
In a nutshell, there's a change from what is called the current year basis of assessment to the tax year basis.
With the tax year basis, you are taxed on the profits earned in the tax year, without any reference to your accounting year end. At present, your profit or loss is calculated with reference to your accounting year ending in the tax year: your 'basis' period.
Why is it changing?
The new system is being brought in because of another major change: Making Tax Digital for income tax self-assessment (MTD ITSA). This is scheduled to begin for most sole traders and landlords from 6 April 2024. Partnerships don't enter MTD ITSA until later: but they are impacted by basis period reform.
The tax year basis begins properly from 6 April 2024. Change, however, begins in the tax year before this - that's the year from 6 April 2023 to 5 April 2024: the transition year.
Add basis period reform to MTD ITSA and you have two big changes landing together at the same time: the impact of this could be considerable, and we shall be pleased to help you review the best strategy going forwards. Unless, for example, there are particular business or other reasons to keep your current year end, there may be a case for looking at changing the accounting year end to 31 March or 5 April, in order to get the best outcome from basis period reform and MTD ITSA.
Then there's the impact on tax bills to consider. Calculating your tax bill in the transitional year will be different. It will use two sets of figures: the first using 12 months running from your last set of accounts: and the second using the profit for the period running from the end of your normal accounting period to 5 April 2024.
Introducing this second part to the mix means bringing additional profits into charge to tax. Depending on your year end, it could bring up to 11 months' more profit into charge. This is likely to result in higher tax bills in 2023/24.
There are other practical implications, as well, in terms of needing two sets of figures to work out transition figures.
What should I do about it?
Talk to us. We can advise on possible mitigation strategies and the tax reliefs available. There is a new relief, called spreading relief, allowing you to spread transition profits over a period of up to five years. You may also have access to overlap relief. The position here can be complex with partnerships, where each partner stands to have a different amount of overlap relief available. Things will also be more complex where there are losses.
Basis period reform and MTD ITSA, combined, bring significant change. Some strategies are time-sensitive: the timing of change to accounting year end, for example, could affect availability of spreading relief. Do please get in touch to discuss outcomes for your business.