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How to pay less tax by shifting your year-end

Paul Samrah of Kingston Smith explains how a low-profit year is a good time to take advantage of ‘overlap relief’ and cut your tax bill by changing accounting date.

Paul Samrah of Kingston Smith explains how a low-profit year is a good time to take advantage of ‘overlap relief' and cut your tax bill by changing accounting date.

Practices have a free choice over their accounting date and under the current year basis, the taxable profit for a tax year is determined by the accounts that end in that year.

For the 2009/10 tax year, accounting dates will vary between 6 April 2009 and 5 April 2010. 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, but if profits do vary then it may be beneficial to look at changing your year-end.

When should I do this?

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.

An accounting date early in the tax year means that tax payments relating to that year are deferred longer. A 30 April year-end results in the balancing payment not falling due until 21 months after the year-end.

In order for a change in accounting date to be effective for tax purposes, the year end date must not have been amended in the previous five tax years and each accounting period cannot be longer than 18 months.

But care should be taken, good quality management accounts give you a guide but it is important to seek professional advice on changing the year end, in the light of both tax and superannuation effects.

What is ‘overlap relief'?

The tax system is designed such 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 profit is profit that has been assessed twice at some point – these profits will be held in reserve for use either when the business ceases or more often if there is a change in accounting date.

The relief is given as a deduction from profit in a later year and called ‘overlap relief'. It should be noted that the quantum of overlap profit remains unchanged by inflation – and therefore it is worth less in future years than it is at present.

Paul Samrah is a partner at Kingston Smith LLP, Chartered Accountants and business advisors.

Paul Samrah explains how to take advantage of 'overlap relief' to cut your tax bill CASE STUDY: single handed practice with a 30 April year end

- Taxable profits for the year-ended 30 April 2009 = £200,000
- So taxed 2009/10 D1 profits = £200,000

Assume this practice had overlap profits of £170,000, and profits for the 11 months to 31 March 2010 of £120,000, then if it changed its year end to 31 March with effect from 31 March 2010 onwards, the computation would be:

- Taxable profits for the year-ended 30 April 2009 = £200,000
- Plus profits for 11 months ended 31 March 2010 = £120,000
- Total = £320,000
- Less Overlap Relief = (£170,000)
- Taxed 2009/10 D1 profits = £150,000

By changing its year end to 31 March, whilst in a decreasing profit trend, £170,000 overlap relief is crystallized. As the overlap profits (£170,000) exceed the profits earnt in the extension to the accounting period (£120,000), the resultant D1 profits for the tax year are less than keeping the status quo.

The financial benefits of changing the year end and thereby crystallising the overlap relief can clearly be seen.

PULSE SEMINARS

This article is a synposis of a presentation given at the Pulse seminar Pensions and Personal Finance on 10 December 2009. To book a place on a forthcoming seminar click here.

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