HMRC's new taxation rules for freelancers will mean significant adjustments

In an important development for the UK’s freelance and partnership sector, HM Revenue and Customs (HMRC) is set to implement significant changes in taxation for the 2024-25 tax year.

This move marks a shift in how over 500,000 sole traders and partnerships will manage their tax affairs. The 2023-24 fiscal year serves as a transitional phase, heralding these upcoming adjustments.

Current vs. future taxation methodology

Traditionally, sole traders and partnerships have had their tax calculated based on profits from accounts ending in the same tax year. For example, accounts closed on December 31, 2022, would be relevant for the 2022-23 self-assessment.

Starting April 2024, this framework changes.

Tax will be calculated on earnings throughout the tax year. In practice, this means a combination of proportions from two consecutive accounting years will be considered for tax purposes.

Rationale behind HMRC’s changes

This transformation is part of HMRC’s broader strategy towards ‘making tax digital.’ The government argues that these changes will simplify and bring fairness and transparency to profit reporting.

However, this viewpoint is not universally accepted. Bodies like the Association of Taxation Technicians express concerns about potential complications and increased tax burdens for affected businesses.

Impact and adaptation strategies

The new rules will primarily affect those whose accounting years do not align with the March 31 or April 5 fiscal year-ends.

While shifting to these dates isn’t mandatory, it may simplify future tax filings. However, the January 31 self-assessment filing deadline poses challenges, particularly with the need for provisional figures and subsequent adjustments.

Professional concerns

For accounting professionals, these changes introduce significant workload concerns. The already busy January period will see increased pressure with the introduction of provisional numbers.

This may lead to longer processing times for annual accounts and potentially higher costs for clients.

HMRC’s transitional approach

HMRC is expected to provide further guidance and leniency during this transitional phase. Amendments to self-assessment returns may not require immediate action, with standard amendment time limits applicable.

This suggests a window until January 31, 2027, for correcting provisional figures for the 2024-25 tax year.

The transitional year’s tax calculation involves a standard part based on the current year’s accounts and a transitional part extending to April 5, 2024.

Overlap relief, a mechanism to counteract double taxation in the early years of trading, will play a crucial role in this calculation. However, this might result in higher tax dues due to the likely excess of transitional profits over the overlap relief.

Managing excess profit

Excess profits identified cannot be reduced but will be spread over five years for taxation purposes. Additional complexities may arise in cases of business losses or for individuals with specific financial obligations like student loans or high income.

These impending changes by HMRC require careful consideration and planning by freelancers and partnerships. Accountants will play a pivotal role in guiding their clients through this transition, ensuring compliance while mitigating potential financial impacts.