BLOG: Not back to basis?

By Rosy Hughes, Head of Private Client Tax

HMRC has announced draft legislation will be included in the Finance Bill 2022 to abolish basis periods for businesses that pay income tax on profits calculated on the current year basis.

It could see unincorporated businesses set for bumper tax-bills for 2022/23 as their account reporting is adjusted to fit the tax year from 6 April 2023. The move is all to prepare for the introduction of Making Tax Digital for income tax from April 2023.

Rosy Hughes, Head of Private Client Tax at Burgis & Bullock, discusses the change in her latest blog:

Not back to basis?

Thinking back to when I first started out in my tax career, I vividly remember a question from my tax tutor – can you be taxed twice on your profits?

A resounding no from everyone in my class but actually we were all wrong. The answer is, yes you can be doubly taxed.

This is because of a sneaky thing called basis periods, which mean depending on the accounting period end of your business, you can be taxed twice on the same profits.

The (very) broad reasoning behind this is to make sure the self-employed and partners are taxed on twelve months of profits from the second tax year. 

This can lead to double taxation of profits in the first couple of years or so and double taxation is also possible if you change your year end.

Any months that are taxed twice create something called overlap profits which are only deductible at certain times, the primary one being when you cease your business.

Next year this is all set to change, with basis periods being abolished in 2022. All my hard work devoted to understanding these complex rules has gone to waste!

The reason why things are changing is in preparation for Making Tax Digital (MTD) in 2023. This is the new mandatory HMRC system where virtually all unincorporated businesses and landlords will be required to report their results quarterly in a digital format.

Those businesses who are compulsorily VAT registered will already be familiar with the process.

Why do basis periods need to go? 

Think about it, you have to report your business results to HMRC every three months on a real time basis, to give an indication of what your taxable profits will be.  

Unless the rules go, what good is this information to HMRC when you could potentially be taxed on profits from 11 months or longer ago when you file your tax return?  Also, what use would this MTD information be to you? None whatsoever.

The removal of basis periods ensures that tax rules change to keep up with HMRC’s new MTD reporting.

If you have a year-end between 31 March and 5 April then this change won’t affect you – but for a significant number of our clients this will be a huge change with significant tax implications.

In the tax year 2022/23, any business that has a non-tax year end accounting period will automatically be taxed on the profits to their normal year-end date, plus profits for however many months remain in the tax year. 

In the worst case scenario for a 30 April year-end, this would mean that you are taxed on 23 (yes, 23) months profits in 2022/23. Wow – I bet you are listening now!

Clearly this change could have a massive tax impact for very many self-employed individuals including partners. All is not lost though, as the current proposal is that measures will be introduced to soften the blow:

  • Overlap profits can be used to reduce the taxable profits in the year of change
  • It may be possible to spread the extra tax payment over five years

Interestingly, there is no requirement to change your accounting period end but realistically I would think that all businesses going forwards will change their year-end to fit in with the tax year and this is certainly what I would recommend.

Now is the time to start thinking about as with profits potentially lower this year due to the pandemic so it may be that changing your year-end this year would lead to a lesser tax bill.

We’re urging anyone who would like further information to get in touch with us here at Burgis & Bullock.

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