If you are self employed and operate as a sole trader or in partnership, be aware of the new basis period rules. These rules apply from 6 April 2023 and will ultimately shift the way in which your profits are reported.
Submitting an inaccurate return can also be costly. Make sure its right first time is key to avoiding those penalties.
The basis period rules pre 6 April 2023 were well established; and relatively easy to understand.
Your profits for the tax year were based on the accounting year which ended in that relevant tax year. So for example, if Mr Baker had a 31 December year end and has tax-adjusted profits of £10,000 for the year ended 31 December 2022, those profits were reportable in full in the 2022/23 tax year as the accounting period ended between 6 April 2022 and 5 April 2023.
From 6 April 2023, profits must be reported up to the tax year end. Even if the accounting period ends on a different date.
Profits may need to be apportioned between different accounting periods and profits reported may cover more than one accounting year.
The tax year 6 April 2023 to 5 April 2024 is where taxpayers will encounter the most changes.
In this year, taxpayers will potentially need to apportion two sets of accounts to estimate profits for the year.
So for Mr Baker above, his next accounting period ends 31 December 2023. All of these profits will be reported in 2023/24. Due to the new rules, he will then have to report an additional 3/12 months of his next years profit (1st January 2024 to 5 April 2024) in tax year 2023/24 too.
(Strictly this is apportioned by the number of days. However you can use months if it is reasonable and you use a consistent approach).
Mr Baker is effectively reporting profits which cover a period greater than one year. These excess profits are known as ‘transition profits’, and will lead to an increase in the amount of tax Mr Baker pays in 2023/24. However, there are ways to reduce his liability. Firstly, the excess amount can be reduced by any brought forward overlap relief[1]. And then, any further excess liability can be spread across five tax years. e.g, if additional profit amounted to £5,000 for the 3 month period, Mr Baker can spread this over the next 5 tax years up until 2027/28, reporting £1,000 per tax year.
You have the flexibility to treat it as if it ends on 5 April. This allows you to report profits without the need for apportionment for the five days after 31 March.
You should consider whether you will be impacted by these changes and if so it’s effect on your cash flow.
Want to avoid additional administrative burden? Look at changing your accounting year-end to align with the tax year end.
Do you want to understand in more detail the basic period reform? Please get in touch and our tax expert will be happy to assist you.
[1] Under the current rules for determining which profits of an unincorporated business are taxed in a particular tax year. Some profits may fall to be taxed twice in the opening years of a business. These profits are known as overlap profits.
