Basis period reform delayed and impacts mitigated for some

In the summer, HMRC announced reform of the ‘basis periods’ for the taxable profits of sole traders, partnerships with trading income. The new system will not now have an impact on GP partnerships until the 2023/24 tax year, but it will still create cashflow concerns for Practices that do not use 31 March or 5 April as their accounting date.

Core reforms

At present, sole traders’ and partnerships’ profits are taxed on a ‘current year’ basis – eg the profits of annual accounts to 30 April 2021 are treated as the taxable profit for the 2021/22 tax year. The will changes to a ‘tax year’ basis, meaning that business profits will be calculated for 6 April to 5 April by apportioning accounting year profits as required. In practice, 31 March will be treated as the end of the tax year: therefore a Practice with a 30 April year end would need to count 1/12th of one accounting period and 11/12ths of the next to calculate its ‘tax year basis’ profit.

One problem is that if the accounts (say to 30 April) following the tax year are not finalised by the time the tax return is due, profits/losses apportioned from them will have to be estimated for the return, and the return subsequently amended once the accounts are finalised. However, the reforms would remove the current complex opening and closing rules that lead to individuals being taxed twice on some profits and creating ‘overlap relief’ given
in the closing year of trade.

Transition in 2023/24

The new rule takes full effect from 2024/25 with a transition from the current to new rules in 2023/24. Continuing businesses will be taxable on their profits on the current year basis (ie 12 months to their accounting date in 2023/24), plus a catch-up period up to the end of the tax year (ie 31 March 2024). Depending on the accounting date of a Practice, this could bring almost two years’ profits into charge for 2023/24, although any overlap relief brought forward may be available.

Nevertheless, this could lead to a significantly increased tax bill, so the draft legislation provides for the excess transitional profit to be spread over five tax years (with no interest charge) to mitigate the cashflow impacts. Individuals will also have the option to be taxed on the full amount in the transitional year. In addition, in years where transitional profits are taxed, they will not be treated as part of the individual’s taxable income for certain purposes (for example, calculating entitlement to certain state benefits, pensions annual allowance thresholds etc.). However, GPs could still end up paying a higher rate of tax on their transitional profit.

Where a partnership moves its accounting date to 31 March in 2023/24 (eg to remove the need for apportionments or estimates when using the tax year basis in later years), that partnership will still be able to benefit from the transitional spreading rules.

It is clear that HMRC has listened to consultation feedback (including from BDO) and has taken steps to reduce the impact of this major change: further consultations on practical filing and reporting arrangements will continue.

While these updates to the proposals are welcome, if your Practice uses an accounting date that is not 31 March or 5 April, there is still much to consider so please get in touch with our team to discuss the impact on your finances.