At Chancellers we can advise businesses in the Hitchin area about choosing the best and most tax-efficient accounting date. Here are some of the issues to consider.
Q. Can I select any date for my accounting year end?
A. Yes
The choice of a year end accounting date is for the business owner to decide.
Under the current year basis, the taxable profit for a particular tax year is determined by the accounts that end in that year.
Thus, for 2020–21 tax, accounting dates will vary between 6 April 2019 and 5 April 2020. So what is the best date to choose?
Sometimes, compelling commercial reasons relating to the nature of the trade will dictate the most appropriate accounting date. Otherwise (as in so many tax matters), there is no easy answer - it all depends on the particular circumstances. There are several basic considerations:
Overlap relief
The system is designed so that, over the life of a business, tax is paid on no more and no less than the cumulative profits of the business. However, unless your accounting date falls between 31 March and 5 April (inclusive), there will be some element of double counting, or overlap, in the first full tax year on the current year basis.
Overlap relief will be held in reserve for use when the business ceases (or on an interim change of accounting date). One concern is that, because of inflation, overlap relief will be worth less in future years than it is at present.
Bunching of terminal profits
The converse of the overlap situation is the ‘bunching’ effect of profits when a business ceases. The assessment for the final tax year will be based on the profits right back to the accounting date in the previous tax year. The earlier in the tax year the accounting date falls, the longer will be the period of account relating to the final assessment.
Thus a cessation date of, say, 31 December means that the final tax assessment will be based on a period varying in length between 9 months (5 April accounting date) and 21 months (6 April accounting date). This effect may be lessened to some extent by overlap relief, but the overall distortion is illustrated in the example set out below.
Partnerships
Partners are each deemed for tax to have an individual business so the points already mentioned for new businesses and those ceasing apply equally to partners joining or leaving a continuing partnership.
Pattern of profits
If profits do not vary significantly from one year to the next, the accounting date will not affect the assessable profit for each tax year.
Where profits show a trend, the rule of thumb is that (all other things being equal) it is beneficial to have an accounting date early in the tax year if profits are rising, and late in the year if profits are falling.
External factors
Of course, all other things are not equal, and in evaluating the advantages and disadvantages of particular accounting dates there are a number factors to be considered, including:
- interest rate movements
- the effects of inflation
- changes in rates of tax
- changes to the tax system
No one can say how these will change over time, and so, not surprisingly, businesses tend to be swayed by the short-term advantages, which have at least some degree of predictability.
Timing of payments on account
It is as well to remember that the date for the first payment on account falls just over two months before an accounting date of 5 April, but nearly ten months after an accounting date of 6 April. Thus, with an accounting date later in the tax year you could pay too much tax on account where profits are falling, and this is a further factor affecting cashflow.
Examples
On the following page, there are examples of the effects of the two extreme accounting dates (5 April and 6 April) in one situation where profits are rising consistently, and another where profits are falling consistently.
The figures relate to two businesses, which start on 6 April 2018 and cease on 31 December 2023, with profits derived from the accounts as follows:
| |
A |
B |
| Year ending 5/6 April 2019 |
£50,000 |
£95,000 |
| “ 2020 |
£60,000 |
£85,000 |
| “ 2021 |
£70,000 |
£80,000 |
| “ 2022 |
£80,000 |
£70,000 |
| “ 2023 |
£90,000 |
£60,000 |
| Period ending 31 December 2023 |
£75,000 |
£35,000 |
| Total |
£425,000 |
£425,000 |
The assessable profits will be as follows (for the sake of simplicity the effect of the odd extra day in the first period has been ignored):
Business A (rising profits)
| Tax year |
Assessable profit (£) |
Difference (£) |
| |
Year end 5 April |
Year end 6 April |
|
| 2018–19 |
50,000 |
50,000 |
— |
| 2019–20 |
60,000 |
50,000 |
(10,000) |
| 2020–21 |
70,000 |
60,000 |
(10,000) |
| 2021–22 |
80,000 |
70,000 |
(10,000) |
| 2022–23 |
90,000 |
80,000 |
(10,000) |
| 2023–24 |
75,000 |
115,000 |
40,000 |
| Total |
425,000 |
425,000 |
— |
Business B (falling profits)
| Tax year |
Assessable profit (£) |
Difference (£) |
| |
Year end 5 April |
Year end 6 April |
|
| 2018–19 |
95,000 |
95,000 |
— |
| 2019–20 |
85,000 |
95,000 |
10,000 |
| 2020–21 |
80,000 |
85,000 |
5,000 |
| 2021–22 |
70,000 |
80,000 |
10,000 |
| 2022–23 |
60,000 |
70,000 |
10,000 |
| 2023–24 |
35,000 |
— |
(35,000) |
| Total |
425,000 |
425,000 |
— |
Of course, the total assessable profits are the same in each case, and equal to the total profits derived from the accounts. The variations arise because of timing differences in the assessment of tax.
These assessment timing differences will obviously affect the tax payable on the normal payment dates of 31 January and 31 July each year. It is therefore vital to consider the implications of these cashflow differences in assessing the advantages and disadvantages of particular accounting dates.
Conclusion
Using a 5 April (31 March) accounting date leads to the simplest application of the current year basis of assessment. However, it does mean that the timetable for tax payments and returns is very tight, and there is therefore an increased risk of incurring penalties. Also there is now less time to allow for tax and business planning relating to tax issues.
If you expect your profits to show an overall upward trend, there are clearly cashflow advantages in having an accounting date at or shortly after the beginning of the tax year. In these circumstances, it is important to ensure that you make proper provision for the increased liability that will occur when the business ceases.
If you are in the Hitchin area and would like advice on choosing your accounting date, contact Chancellers.