UK and International Tax news

HMRC Consultation On Basis Period Reform

Friday 23rd July 2021

HMRC has launched a consultation on reforming the rules under which profits of unincorporated businesses are allocated to tax years using basis periods.

Self-employed individuals, including partners, with trading income use basis periods to allocate trading profits and losses to specific tax years. There is a basis period for each tax year that a business trades in. Complex rules are applied to determine basis periods when a business starts and finishes. Over the lifetime of a business, the basis period rules should ensure that all profits are taxed once.

Where a business chooses an accounting date other than 5 April or 31 March, some profits may be taxed twice in the early years of trading as basis periods may overlap. The doubly taxed profits are carried forward as ‘overlap profits’ and deducted when the trade ceases or on a change of accounting date as ‘overlap relief’.

The basis period rules for trading income are different to the rules for other sources of income such as property and investment income. This can cause confusion, for example where these other sources of income are included in the same set of business accounts.

In 2014, the Office of Tax Simplification recommended simplifying basis periods and, although they did not make a specific simplification proposal, they recommended a review of the complexities in the opening years of a trade and a review of overlap relief.

A 2016 consultation, Simplifying Tax For Unincorprated Businesses, included proposals to reform basis periods. A summary of responses to this consultation was published in 2017.

The proposals contained in the latest consultation however are significantly different to the proposals included in the 2016 consultation.  The latest consultation proposes to reform basis periods by moving from a current (accounting) year basis to a tax year basis, where the profits or losses for a tax year are those arising in the tax year. The proposed tax year basis would replace all the basis period rules currently in place, removing the special basis period rules for trading income for unincorporated businesses and for the untaxed income of trading partnerships. This would align the basis period rules for trading income with all other forms of income.

For example, where a business draws up accounts to 30 June, current rules provide that income tax for the tax year 2023/24 would be based on the profits in the business’s accounts for the year ended 30 June 2023.  The proposed reform would mean income tax for 2023/24 would be based on 3/12 of the income for the year ended 30 June 2023 plus 9/12 of the income for the year ended 30 June 2024.  Ttransitional rules would ease any one-off cash flow impact of the change, and all existing overlap relief would be used during the transition period.

The proposals will affect the self employed, partnerships, trusts, and estates with trading income.

The consultation runs to 31 August.  The government will then consider whether to publish a summary of responses alongside any decision on the detailed implementation of the proposal, which will be announced later in the year.

 

If you would like further information on the consultation, please contact Keith Rushen on 0207 486 2378.

 

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