The way self-employed profits are calculated for tax is changing. As part of HMRC’s tax administration strategy “Making Tax Digital”, the current 12-month accounting year is switching to tax years from April 2024. If your profits are calculated on a different basis (i.e. if your business year-end is not between 31st March and 5th April), your profits will be calculated over an unusually long period in 2023 to get there.
Using an example 1st July to 30th June accounting year, 2023 profits will be calculated as follows:
12 months of standard profits between 1st July 2022 and 30th June 2023, as normal.
PLUS
9 months of “transitional” profits between 1st July 2023 and 5th April 2024.
Profits (and losses) calculated over a longer period are likely to be higher than usual. Higher profits mean more tax to pay and potentially at higher rates, especially considering:
The basic and higher rate tax thresholds have not increased this year. This could mean more profits falling into higher tax bands and becoming subject to higher rates of tax.
The additional rate tax threshold has reduced to £125,140 (from £150,000 in 2022). The combination of higher profits and a lower threshold could mean the top-tier 45% tax rate applies.
HMRC recognise the potential for an additional tax burden and will allow “transitional” profits to be spread over a maximum of 5 years or allocated to a particular year. 2023 is also the last year you can use any overlap relief if this is available to you.
The opportunity: get the tax back and increase your pension savings at the same time.
A contribution to a registered pension provides income tax relief – you get tax back when you pay into your pension.
For the self-employed, pension contributions are restricted to the level of your taxable earnings (and available annual allowance). If you have higher taxable earnings in 2023, this could be an opportunity to pay more into your pension than usual (subject to available annual allowance).
The annual allowance for 2023 is £60,000, and you can carry forward any unused allowances from the previous 3 tax years. Potentially, a £180,000 contribution can be made.
From April 2023, a zero tax-rate applies if the value of all your pensions is more than the Lifetime Allowance (currently £1,073,100). If current proposals proceed as planned, the Lifetime Allowance will cease to apply from 2024.
There may never have been such a good opportunity for the self-employed to add to their pension.
The contents of this blog are for information purposes only and do not constitute individual advice.
Thresholds, percentage rates and tax legislation may change in subsequent Finance Acts. Levels and bases of, and reliefs from, taxation are subject to change and their value depends on the individual circumstances of the investor. The Financial Conduct Authority does not regulate Tax Planning.
