If you’re a self-employed sole trader or a partner in an unincorporated business, you should know about a recent change that impacts how your profits are taxed. The Treasury has updated the rules for ‘basis periods,’ meaning if your financial year-end doesn’t match the tax year, your tax calculation might look different starting now.
What’s Changing?
Historically, sole traders and partnerships paid tax based on profits from their chosen accounting period ending in the tax year. From the 2024 tax year onwards, however, your tax liability will be determined by profits or losses within the tax year itself (ending on 5th April).
This change primarily impacts those who don’t already align their accounting year with the tax year.
Why This Matters to You
Aligning accounting periods with the tax year may seem straightforward, but the shift can have financial implications if your year-end doesn’t match the tax year. Here’s why:
- Temporary Impact on Profits: Switching to tax-year-based profits means some businesses may need to report on a slightly shorter or longer period during the transition.
- Higher Tax Bracket Risk: If your reported profits increase during the shift, you could temporarily fall into a higher tax bracket.
- Financing Implications: A temporary dip in reported income might impact eligibility if you’re applying for loans or mortgages.
Why Is the Treasury Making This Change?
The Treasury aims to simplify tax reporting for sole traders and partnerships, as the previous rules led to errors on self-employed tax returns each year. Additionally, aligning with the Making Tax Digital (MTD) initiative—set to include income tax—supports the government’s move toward more streamlined digital reporting.
How Might This Impact You?
If your business year-end doesn’t match the tax year (for instance, you report profits until 31st December), you now have two options:
- Report Across Two Periods: For example, report your profits for the 12 months up to December 2023, then for the remaining months up to March/April 2024.
- Align Your Accounting Year with the Tax Year: This would mean adjusting your reporting period (e.g., moving to a shorter 3-month period for the transition).
Both options may have consequences:
- Income Fluctuations: Adjusting your reporting period could temporarily inflate or deflate your earnings.
- Tax Bracket Changes: A sudden increase might push you into a higher tax bracket.
- Loan or Mortgage Eligibility: A sudden drop in reported income could affect eligibility if you’re applying for finance.
What You Should Do Now
The changes are in effect, so planning now can save time and reduce surprises. Reviewing your year-end date might be a beneficial step, but there’s no one-size-fits-all approach. Seeking professional advice can ensure you’re making the right adjustments for tax efficiency and financial stability.
Let Inca Review Your Position
Get in touch to discuss how these changes might impact you and explore the best solution for your business.
Contact one of our advisors today for an initial discussion. Call us on 01235 424612 or email us at [email protected].
