It is an apparently reasonable proposal: a change in the basis period rules eliminates overlap relief and makes the eventual transition to Making Tax Digital a little easier. It is the scale of this change and the strain it will put on businesses that suggest these reforms may not have been properly considered.
Many businesses will prefer to continue to prepare their accounts to a date which does not align with 31 March or 5 April. For example, those beholden to international businesses where a December financial reporting date is immovable. The solution of apportioning two accounting periods to construct the taxable profits comes with the expectation that some individuals will need to estimate their profits for the later period. Wherever there are estimates, there must follow amended tax returns and interest on under and over-payments adding to the administrative burden of complying with this new regime.
The approach of using estimates will cause problems for other aspects of the tax system. A sole trader with a 30 April year end, has plenty of time to calculate their pension annual allowance as the accounts are normally ready long before the following 5 April. If an estimate must be used to calculate the profits for a tax year, they risk making excess contributions and incurring further tax charges.
History is repeating itself here. The suggested reform has echoes of the end of the cash basis in April 1999 which resulted in a catch-up charge spread over ten years. Under the current proposal, the ‘transition period profits’ are to be spread over five years. An option of spreading over ten years would be better. The worry is that the amounts involved could be very large. For example, a business with a 30 April year end will have eleven months of ‘transition period profits’ and, although overlap relief can be deducted, this deduction could be small. This strain on cashflow will hold back decisions around investment and recruitment in the professional firms’ sector.
The spreading over five years is a spreading of the profits arising over five years rather than the tax charge arising on the entire ‘transition period profits’ in 2022/23 with this tax being paid over five years. This means that an individual who decides to accept the option to spread should not be penalised with late payment interest. The spreading of profits, rather than tax payable, will avoid the problem of individuals being pushed into a higher tax bracket in a single year but it does leave individuals at risk of tax and national insurance increases in the future. The draft legislation does include an election to accelerate the ‘transition period profits’ into a single year which will need to be properly evaluated if tax or NI increases are announced in the next few years.
Overall, the reform makes sense and for the vast majority who will change their year ends to 31 March, their lives will be simpler, but this comes at a cost of tax payments being accelerated.
Home >Articles > Draft Finance Bill 2022: Basis period reform
Draft Finance Bill 2022: Basis period reform
A reasonable proposal but one with hidden costs.
It is an apparently reasonable proposal: a change in the basis period rules eliminates overlap relief and makes the eventual transition to Making Tax Digital a little easier. It is the scale of this change and the strain it will put on businesses that suggest these reforms may not have been properly considered.
Many businesses will prefer to continue to prepare their accounts to a date which does not align with 31 March or 5 April. For example, those beholden to international businesses where a December financial reporting date is immovable. The solution of apportioning two accounting periods to construct the taxable profits comes with the expectation that some individuals will need to estimate their profits for the later period. Wherever there are estimates, there must follow amended tax returns and interest on under and over-payments adding to the administrative burden of complying with this new regime.
The approach of using estimates will cause problems for other aspects of the tax system. A sole trader with a 30 April year end, has plenty of time to calculate their pension annual allowance as the accounts are normally ready long before the following 5 April. If an estimate must be used to calculate the profits for a tax year, they risk making excess contributions and incurring further tax charges.
History is repeating itself here. The suggested reform has echoes of the end of the cash basis in April 1999 which resulted in a catch-up charge spread over ten years. Under the current proposal, the ‘transition period profits’ are to be spread over five years. An option of spreading over ten years would be better. The worry is that the amounts involved could be very large. For example, a business with a 30 April year end will have eleven months of ‘transition period profits’ and, although overlap relief can be deducted, this deduction could be small. This strain on cashflow will hold back decisions around investment and recruitment in the professional firms’ sector.
The spreading over five years is a spreading of the profits arising over five years rather than the tax charge arising on the entire ‘transition period profits’ in 2022/23 with this tax being paid over five years. This means that an individual who decides to accept the option to spread should not be penalised with late payment interest. The spreading of profits, rather than tax payable, will avoid the problem of individuals being pushed into a higher tax bracket in a single year but it does leave individuals at risk of tax and national insurance increases in the future. The draft legislation does include an election to accelerate the ‘transition period profits’ into a single year which will need to be properly evaluated if tax or NI increases are announced in the next few years.
Overall, the reform makes sense and for the vast majority who will change their year ends to 31 March, their lives will be simpler, but this comes at a cost of tax payments being accelerated.
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