Basis Period Reform – preparing for the transition

The government is moving ahead with 'basis period reform', which will see all sole traders and partnerships taxed on their profits arising in the tax year, regardless of their accounting year-end. This change will fully take effect from 6 April 2024, with 2023/24 acting as a transition year.

For businesses with a year-end other than 31 March or 5 April, this could result in a significant 'bunching' of profits in the transition year. While there are rules to spread this additional tax liability over five years, it is vital to start planning now to manage your cash flow and understand the impact on your tax bills.

How the current system works

Under the old rules, you were taxed on the profits of your accounting period that ended within the tax year. For example, if your accounting year ended on 31 December 2022, those profits would be taxed in the 2022/23 tax year. This system was complex, particularly in the opening and closing years of a business, and often resulted in profits being taxed twice (creating 'overlap profits').

The transition year mechanics

In the 2023/24 transition year, businesses will be taxed on their standard 12-month accounting period, plus the 'transition part'—the profits from the end of that accounting period up to 5 April 2024. For a business with a 31 December year-end, this means 15 months of profit will be brought into charge in a single year. Any overlap profits generated when the business started can be deducted from this total.

Spreading the burden

To prevent massive tax bills in 2023/24, the transition part of the profits (after deducting overlap relief) will be automatically spread evenly over five tax years. However, businesses can elect to accelerate this charge and pay it sooner if they wish. Given the complexity of these calculations, businesses with non-standard year-ends should consult with their accountant early to model the cash flow impact and decide whether to permanently change their accounting date to 31 March.