Hello,
I think I understand how overlap profits work, but please could someone explain why HMRC double-tax businesses in this way? Would not doing so cause a loophole that I'm just not seeing?
Thanks,
MrA
Replies (14)
Please login or register to join the discussion.
It looks like double taxation but the overlap relief is reversed on a cessation of the business.
It may look a clumsy way of doing it, but it just arises from HMRC's way of getting businesses to be taxed on the profits in their normal accounting periods as soon as possible after commencement.
They do it ...
... to encourage businesses to have a 5 April (or 31 March) year end, and to accelerate tax receipts in the early years of a business. Loophole? No, I've missed it as well.
.
We have a couple of historic overlap clients taken on from other accountants and invariably there is a huge disconnect between the accounts tax and the business given accounts drawn up to 1st May 2011 to 30th April 2012 are only just now going on their 2012/13 tax returns for payment in Jan. The client hasn't got a clue where they are, and the accounts prep is much harder given you are going back so long - any improvements you put in place are not going to see the light of day for years (!). Both clients are trapped as if we change it they will get a huge whack of tax which has also prevented incorporation of one of them, albeit it was marginal with a 31st March year end.
This might have been 'clever' in year one with a tax deferral, but the price is a confusion for the client for the lifetime of the business and the overhanging tax that will hit if the business has a slow down.
As you can see i am not a fan!
I disagree
We have a couple of historic overlap clients taken on from other accountants and invariably there is a huge disconnect between the accounts tax and the business given accounts drawn up to 1st May 2011 to 30th April 2012 are only just now going on their 2012/13 tax returns for payment in Jan. The client hasn't got a clue where they are, and the accounts prep is much harder given you are going back so long - any improvements you put in place are not going to see the light of day for years (!). Both clients are trapped as if we change it they will get a huge whack of tax which has also prevented incorporation of one of them, albeit it was marginal with a 31st March year end.
This might have been 'clever' in year one with a tax deferral, but the price is a confusion for the client for the lifetime of the business and the overhanging tax that will hit if the business has a slow down.
As you can see i am not a fan!
I am sure if you asked a client at the start of their business 99% would opt for a tax defferal. Agreed it doesnt often work, but in certain situations it can be good!
...and 100%
would have forgotten by the time the business ceases and blame you for the unexpected tax chargeWe have a couple of historic overlap clients taken on from other accountants and invariably there is a huge disconnect between the accounts tax and the business given accounts drawn up to 1st May 2011 to 30th April 2012 are only just now going on their 2012/13 tax returns for payment in Jan. The client hasn't got a clue where they are, and the accounts prep is much harder given you are going back so long - any improvements you put in place are not going to see the light of day for years (!). Both clients are trapped as if we change it they will get a huge whack of tax which has also prevented incorporation of one of them, albeit it was marginal with a 31st March year end.
This might have been 'clever' in year one with a tax deferral, but the price is a confusion for the client for the lifetime of the business and the overhanging tax that will hit if the business has a slow down.
As you can see i am not a fan!
I am sure if you asked a client at the start of their business 99% would opt for a tax defferal. Agreed it doesnt often work, but in certain situations it can be good!
It was introduced when we moved to Current Year Basis (CYB)
Basically means all profits are taxed over the life of a business regardless of the accounting year end.
You want a non-fiscal year end, you can have one, but you'll pay tax on profits by ref to the opening year rules - which involves an element of double taxation. This is reversed when the business stops or is sold.
Stops tax avoidance in opening years which might otherwise have been possible if profits were only taxed by ref to the tax year in which first accounting period ends. Some people used to have long accounting periods in an effort to avoid or at least defer tax liabilities.
Before CYB we had Prior Year Basis which was ripe for tax avoidance - and even longer time gaps between earning profits and paying tax thereon. And, therefore even more problems to trace all data required to resolve tax enquiries.
HMRC missed a chance
As Mark Lee says, the current overlap relief arose when the change was made to the current year basis when it was deemed necessary to keep using special opening years rules.
If instead of the current opening years rules they had instead chosen to tax in year one the profits to 5 April, in year two the profits from 6 April to the normal year end, and in year 3 onwards the normal year end, there would have been no need for this overlap as profits would have been taxed once already.
Unfortunately they didn't go for this, which I have always assumed was because it would have meant that less than 12 months profits were taxed in year two, which would have hit tax revenues.
They also bottled the chance to scrap the crazy use of 5 April, as the change to the current year basis was a fantastic, once-in-a-lifetime opportunity to move to a calendar year basis, or at the very least a 31 March tax year.
Rant over!
Don't know why ...
... they don't just pro-rate accounts, yes there can be some manipulation, but I can't see that as being over much. If the accounts year is say December then put in provisional figures and then amend ehwne actuals known.
Or, just say every one has to drawn up accounts to within 7 days of 5th April and they will be deemed as the accounts fopr the tax year.
Tax charge
I thought you get a tax rebate when you cease the business to reverse the overlap period's double taxation? Why would you get a tax charge? (or are talking about businesses that have made a loss when they start?)
Take the almost extreme case of a trader with a 30 April year end and thus 11 months of overlaps. 2012 self assessment based on year ended 30 April 2011.
Then cessation on 31 March 2013. Assessable profits will be the 12 months to 30/04/12 plus 11 months to 31/03/13 = 23 months, less a deduction for the 11 months overlaps, so in theory only 12 months of profits are taxed.
The problem that frequently arises is that the profits per month in the final period are higher than the overlaps which arose on commencement, or when self assessment was introduced. So if you made £24000 in year 1 and £36000 on cessation, the final self assessment profit could be £47,000 pushing into higher rates and probably the biggest tax bill you've ever had. (and I've seen potential bills of far more than that)
@cloudcounter
We can't always control the cessation date but surely in the example you give above the solution is simple - carry on trading for a further 6 days.
6 days
We can't always control the cessation date but surely in the example you give above the solution is simple - carry on trading for a further 6 days.
Yes, if it's an issue of course you can. The example was more to illustrate the additional profit for the previous querist. If you go on for six days you'll have profits of £14k assessable for the following year, which can produce different problems if the trader has moved into paid employment.
or perhaps
you starteded modestly and have low profits and low overlap from early years, but the business does well and 20 years down the line you have a very large closing profit figure, but still only the original overlap to reduce it.
Over the life of the business you have been assessed on the taxable profits only once, but there can be a 'balloon' payment of assessable profit