Basis Period Adjustments

The 2023/24 tax year marks a major shift in the way unincorporated businesses are taxed. It is a transition year, with HMRC moving from the traditional “current year basis” to a “tax year basis” from 6 April 2024. While this change is intended to simplify the system in the long run, it introduces some short-term complexities (and often tax expense) during the transition year which partners and other sole traders ought to be alive to.
 

What Is the Basis Period Reform?

Under the ‘current year basis’, businesses were taxed on profits from accounting periods that ended within the tax year. Moving forward, and effective from the 2024/25 tax year however, businesses will be taxed on ‘tax year basis’ i.e. the profits actually earned during the tax year itself, running from 6 April to 5 April, regardless of their accounting year-end.

Fortunately, this change does not require businesses to alter their accounting year-end. Businesses can continue to use their existing year-end, but if that does not fall between 31 March and 5 April, they will need to apportion profits from two different accounting periods. This introduces an added layer of complexity in preparing self-assessment tax returns, which partners and sole traders must be mindful of to ensure accurate tax assessments going forward.

Despite the change in how profits are assessed, there will be no change to the filing or payment deadlines. These deadlines will remain at 31 January following the end of the relevant tax year, with those falling within the system paying tax in two “on account” tranches in January and July.

How Tax Year Basis Profit Calculation Works

If your business’ year-end does not align with the tax year, you will need to apportion your tax-adjusted profits between two periods. For example, if your year-end is 31 December, for the 2024/25 tax year, you would apportion 270 days of profits from the year ending 31 December 2024, plus 95 days from the year ending 31 December 2025. This apportionment can be done based on days, weeks, or months, provided the method is consistent and reasonable.

If your accounts are not ready by the time you need to file, you will have to estimate the figures for the incomplete second period. These estimates must be reasonable and supported by evidence. Once the actual figures become available, you will need to amend your return, which can be done up until the usual amendment deadline (for example, by 31 January 2027 for the 2024/25 tax year).

Using estimates could potentially increase HMRC scrutiny, as frequent amendments may be viewed as higher-risk. However, HMRC has clarified that businesses will not be penalised for amendments made solely due to the basis period reform. Taking care to accurately amend a return should obviate the possibility of a potential dispute with HMRC over any mistakes or incongruities.

The Transition Year: 2023/24

The 2023/24 tax year serves as a transitional period, bridging the gap between the old and new tax systems. During this period, businesses will be taxed on two components:

• Standard Part: This includes 12 months of profit following your 2022/23 basis period.
• Transition Part: This includes the profit from the end of the 12-month period up to 5 April 2024.

For some, this might mean close to twice as much tax will be due for the transition year. To help ease the tax burden, businesses can take advantage of available overlap relief (see below). Additionally, any remaining transition profits can be spread evenly over up to five years.

If there is a loss in either the standard or transition part, the rules automatically offset these losses against each other. If overlap relief causes or increases a loss, businesses may be eligible for extended loss carry-back, allowing the loss to be carried back up to three years.

Using Overlap Relief

Overlap relief occurs when profits are taxed more than once, typically at the beginning of a sole trade or on joining a partnership, or after a change in the year-end. The 2023/24 tax year is the final opportunity to claim this relief; any unused amounts after this period will be lost. Overlap relief can potentially create a loss, which can be carried back for up to three years (on a last-in, first-out basis), but this only applies to losses caused by the relief itself. If you are unsure about the amount of overlap relief you have, you can request this information from HMRC. We would always recommend seeking specialist financial advice if you are in any doubt of the relief available.

Spreading Transition Profits

To ease any immediate tax impact, transition profits (after applying overlap relief) can be spread over five years, with 20% allocated per year by default. However, you can choose to accelerate the spread in any given year, such as if you have a low income or significant deductions that year. If the business closes before the five-year period ends, any remaining transition profits must be accounted for in the final trading year.

Impact on Other Taxes

Capital allowances remain unaffected by the basis reform. Additionally, transition profits are subject to Class 4 National Insurance contributions (NICs).

Reliefs and Allowances

Area	Impact
Double Tax Relief	Still applies to transition profits.
Personal Allowance	May taper if adjusted income (including transition profits for comparison purposes) exceeds £100,000.
Student Loans	Repayments do take transition profits into account.
Tax Credits	Only standard part profits are included.
Universal Credit	Transition profits excluded, but may indirectly affect entitlements via tax/NIC impact.
HICBC	Not affected; transition profits excluded from net income.
Pensions	Transition profits count as relevant UK earnings.
Artists/Farmers Averaging	Transition profits excluded; transition losses included.
CGT Rates	Not affected; transition profits don’t push you into higher CGT brackets.
Payments on Account	Likely to increase due to higher 2023/24 profits.

Special Rules for Partnerships

There will be no changes to how partnerships prepare their tax returns, but individual partners must switch to a tax year basis for self-assessment starting in 2024/25. In 2023/24, partners need to calculate transition profits, apply overlap relief, and decide whether to spread the profits, handling these tasks through their own self-assessment returns. Doing so with the assistance of specialist financial advisors is encouraged.

For partnerships with internal "notional businesses", such as rental activities, separate rules apply and we would recommend speaking with your tax advisor as soon as possible to consider the same.

Conclusion

While the basis period reform may simplify tax processes in the long term, it brings significant challenges in the short term, particularly for those not aligned with the tax year. To navigate these changes, it is important to take specialist tax advice as soon as possible.

Further information

For personalised advice and more information on how these changes might affect you directly, please reach out to Matt Spencer, Krishna Mahajan or Úna Campbell in our specialist team at Kingsley Napley LLP.

 

About the authors

Matt is a partner within the Corporate, Commercial and Finance team, specialising in tax law, advising on and efficiently structuring a wide range of corporate and real estate transactions including M&A, land transfers, developments and leases.

Krishna is a Senior Associate in the Dispute Resolution Team, who specialises in litigation and resolution of complex tax matters. 

Úna is a trainee solicitor, currently sitting in the Dispute Resolution team. She works on a wide variety of litigation matters.