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Income Tax: Basis Period Reform in the agriculture sector

From April 2024, the basis of taxation for partnerships and self-employed individuals is changing. It will affect those who currently have an accounting year-end that does not align with the tax year of 5 April or 31 March.

What are the current rules?

Currently, partnerships or sole traders can choose whatever date they wish to draw up their accounts, with the accounting year-end date determining the tax year in which those profits are assessed for tax.

For example, an accounting year ended 31 July 2022 will be taxed in the tax year ended 5 April 2023. An accounting year-end of 5 April 2023 is aligned with the tax year-end, and so is also taxed in the tax year ended 5 April 2023.

Following on from this, when a partner joins a partnership, they are introduced into the current tax system under the opening year rules. In these early years, the partner will be taxed on profits twice. For example, if a farming partnership has a 30 September year-end, this is six months behind the tax year-end. Therefore, the new partner will be taxed on six months of profits twice, which are known as overlap profits.

Overlap profits are only ever relieved (deducted from taxable profits) when the accounting year is moved closer to the tax year-end, or when the individual leaves the partnership.

Partners will all have different levels of overlap profits as these are determined by their profit share in their opening years.

All change from April 2024

From April 2024, partners and the self-employed will pay tax on 12 months of profits to the end of the tax year – technically 5 April, but for ease 31 March is used.

This means that individuals will be taxed on extra profits, although they can claim their overlap against those profits.

All those with a non 31 March year-end will relieve their overlap profits in the 2023/24 transitional year.

This does not mean that businesses have to change their accounting year-end date. However, if they continue to keep, for example, a 31 July year-end, then their tax return will take four months of profit from one set of accounts and eight months from the next set, so that they are assessed on a tax year basis.

Impact on tax liabilities?

Overlap profits are created when an individual joins a partnership (or if already in business at that time).

Accordingly, when we move to the new tax basis, there will be an advancement of tax that otherwise would not hit until the partner left the partnership or ceased to trade.

Given the above, HMRC are allowing the spreading of any excess profit over the current year profits, over five years to help cash flow.

The five year spreading of additional profits is only available in 2023/24.

Thought needs to be given to the following:

1. If there is no plan to align your accounts year-end to the tax year-end, accounts will need to be completed earlier to enable tax returns to be submitted.

2. Due to advancement of taxable profit, there may well be less time to consider partnership profit shares, which will make tax planning more challenging.

3. The five-year spreading could affect your marginal tax rate for the subsequent five years. Consideration needs to be given to the potential loss of personal allowance, the potential for paying higher rate tax and the impact on farmers’ averaging calculations.

4. If pension contributions are made to extend your basic rate band, there may need to be some more thought given to the levels of contributions in order to have the desired effect.

5. Cash flow could be an issue if businesses have to pay extra tax as a result of advancement of tax in the transitional years.

If you currently have a non 5 April or 31 March year-end, speak to us as soon as possible.

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Developed by our team of experts, the Moore Scarrott Rural newsletter keeps you informed with the latest news and insights impacting the financial landscape of the agriculture and rural sector.