Taxation of the unincorporated business for ATX-UK

The existing business
Part 3 of 4

This is the Finance Act 2022 version of this article. It is relevant for candidates sitting the ATX-UK exam in the period 1 June 2023 to 31 March 2024. Candidates sitting ATX-UK after 31 March 2024 should refer to the Finance Act 2023 version of this article (to be published on the ACCA website in 2024).

So far in this article we have reviewed some of the fundamental rules relating to the taxation of the unincorporated business and compared the total tax paid on the profits of a business depending on the business vehicle used. We are now going to look at the tax implications of a change of accounting date and the cessation of a business.

Change of accounting date

The rules used to determine the basis periods on a change of accounting date are not easy to learn. In addition, the application of the rules to a particular situation can also cause difficulties. Accordingly, it is important to learn and practise the rules as part of the revision process.

It may be helpful to note the following points and to use them as a check once the calculations have been prepared.

1. An individual who has traded for the whole of a tax year, will be taxed on 12 months of profits in that tax year – the only issue is determining which 12 months.
   Note: this rule also applies in the opening and closing years of a business – the number of months that an individual is taxed on in a tax year is equal to the number of months that he traded for in that year. For example, an individual who ceases trading on 31 October 2022 will be taxed on seven months of profits in 2022/23 once relief has been given for overlap profits.
   
   
2. The length of the overlap period is equal to the number of months from the accounting reference date to the end of the tax year. For example, an individual with a 30 November year end will have four months (1 December to 5 April) of overlap profits.
   
   Accordingly, on a change of accounting date, the length of the overlap period will change.
   
   Note: this method merely determines the number of months in the overlap period; it does not identify the overlap period itself.

Illustration 2
James has always prepared accounts to 31 December. He has changed his year end to 30 September and prepared accounts for the nine months ended 30 September 2022.

Prior to the change of accounting date, James had an overlap period of three months (1 January to 5 April). Following the change of accounting date he will have an overlap period of six months (1 October to 5 April).

Cessation

A cessation occurs when the individual is no longer carrying on the business; the business itself may have been sold (or gifted) such that it has not ceased but is being carried on by someone else. 

Choice of date of cessation
The date of cessation determines the tax year in which the business ceases and the calculation of the taxable trading profits for the final tax years under the closing year rules. A trader may be in a position to choose the most beneficial date of cessation from a tax point of view.

For example, where a taxpayer is about to sell a business and has little or no other income, it may be beneficial to carry out the sale at the start of a tax year (say, 2022/23) rather than at the end of the previous year – this would enable the offset of the personal allowance for 2022/23, which would otherwise be wasted.

The tax year in which a business is sold will also determine the availability of the annual exempt amount and, where business asset disposal relief is not available, the rate at which capital gains tax will be paid.

Trading losses on cessation
On the cessation of a business, the loss relief position is made more complicated by the availability of terminal loss relief in respect of the loss of the final 12 months of trading. Accordingly, there are two alternative reliefs available (or even three if the business is transferred to a company in exchange for shares). Each alternative may need to be considered in detail in order to determine the potential tax saving. As always, it is important to be sure of the precise income and/or chargeable gains that the losses can be offset against – and the periods in which the offset can occur.

Illustration 3
Haile ceased trading on 30 June 2022. His results in the final periods of trading were:

• Year ended 30 September 2021 – £11,400 profit
• Nine months ended 30 June 2022 – £11,250 loss

Haile had unrelieved overlap profits of £2,700 as at 30 June 2022.

Haile’s terminal loss is calculated for the final 12 months of trading by reference to tax years.

Relieving the terminal loss
The terminal loss can be offset against trading profits of 2022/23 (the final tax year of trading) and 2021/22, 2020/21 and 2019/20 (the three preceding tax years, later years first).

The loss of the final trading period that does not form part of the terminal loss (£2,850) is available for offset against general income and chargeable gains of 2022/23 (the year of the loss) and/or 2021/22 (the previous year).

Relieving the trading loss of 2022/23 against general income and chargeable gains
The trading loss of 2022/23 of £13,950 (£11,250 + £2,700) is available for offset against general income and chargeable gains of 2022/23 (the year of the loss) and/or 2021/22 (the previous year).

Value added tax (VAT)
When considering the ‘tax implications’ of a particular commercial transaction or situation it is important to consider all of the possible taxes unless they are specifically excluded by the question.

On the cessation of trading a taxpayer is treated as having made a supply of all inventory, equipment and other items in respect of which input tax was claimed. The output tax in respect of this deemed supply is payable to HM Revenue & Customs unless it does not exceed £1,000.

Conclusion

In order to be able to deal with questions concerning choice of year end, change of year end and choice of cessation date you need to be very confident of your knowledge of the basis of assessment and change of accounting date rules together with the rules concerning the offset of trading losses.

Note: The unincorporated trader is also considered in:

• Taxation of the unincorporated business – the new business for ATX-UK

Written by a member of the ATX-UK examining team

The comments in this article do not amount to advice on a particular matter and should not be taken as such. No reliance should be placed on the content of this article as the basis of any decision. The authors and ACCA expressly disclaim all liability to any person in respect of any indirect, incidental, consequential or other damages relating to the use of this article.