From 6 April 2024, all unincorporated entities (sole traders and partnerships) will be taxed on profits generated in the fiscal year and not those aligned to the business’s accounting year-end. It is part of HMRC’s move towards ‘making tax digital for income tax self-assessment’ but planning your income and expenses now may help you manage your future tax bills.
What is the ‘Change in Basis Period’?
Unincorporated entities that do not currently have a year-end between 31 March and 5 April, will be taxed on a longer period, beyond the existing accounting year-end, to 5 April 2024.
The extended period for tax will be broken into two parts:
Standard period – this is the profits for the first 12 months (as will have been the case in earlier periods); and
Transitional period - this is taxable profits arising from the extended period from the end of the prior standard period accounting date to 5 April 2024.
The taxable profits arising from the transitional period will have any unused ‘overlap profits’ deducted from them. An ‘overlap’ period is a period that falls within the basis periods for two successive tax years resulting in an element of taxable profits being taxed twice.
HMRC is allowing the tax due on the transitional period profits to be paid over five years, starting with the year ending 5 April 2024.
What to consider?
Whilst the thought of allocating profits arising from the transitional period over five years sounds inviting, there are matters to consider to ensure the most appropriate, and affordable, action is taken:
When your taxable income exceeds £100,000, £1 of personal allowance is lost for every additional £2 of taxable income earned until the personal allowance of £12,570 is reduced to NIL at £125,140. This is an effective tax rate of 60% or 63% in Scotland.
From 6 April 2023, the threshold for the ‘additional’ rate of tax (45% or 47% in Scotland) was dropped from £150,000 to £125,140 – this revised threshold being the point at which an individual has lost all their personal allowance.
Can you effectively manage your income and expenses in the transitional period? Do you have capital items to purchase in this period that will attract an annual investment allowance (100% allowable deduction against taxable profits), or can you defer income to a later period?
Depending on the level of taxable profits in the standard and transitional periods, it may be tax efficient to pay the tax arising on the transitional period in the first year, cash flow permitting, rather than spreading it over the five-year period.
Planning ahead, anticipating future profits and understanding what the tax liability might be, whether spreading transitional profits across five years or taking the full hit in 2023/34, will enable you to make informed business decisions around income and expenditure and provide a saving target for the potential tax liability that lies ahead (this is payable to HMRC by 31 January 2025).
If you have any concerns about your position ahead of the change in basis period, please get in touch. Call 08081445575 or email help@armstrongwatson.co.uk.
