Are you clued up on Basis Reform?

The next tax payment due for partners (and members of LLPs) is the 31 January 2025, with Basis Period Reform (BPR) this is expected to be higher than in previous years for those partners in firms whose accounting year end is not coterminous with the tax year end of 5 April.

What is Basis Period Reform?

In a nutshell: partners will be taxed on a tax year basis from 2024/25 onwards, in respect of their taxable profit shares. For the current tax year – 2024/25 – the tax period ends on the 5 April 2025 and partners will be assessed to tax of their taxable profit shares for the year ending 5 April 2025.

An accounting year end anywhere between 31 March and 5 April is treated as coterminous.

For a partner in a firm that does not have a coterminous year end, this can be mean a lot of hassle. For example, a firm with a 30 April year end, the partners will be taxed on the following for the 2024/25 tax year:

• 1/12 of the taxable profit share for the year ending 30 April 2024, plus
• 11/12 of the taxable profit share for the year ending 30 April 2025.

However, a firm with a 31 December year end, the partners will be taxed on the following for the 2024/25 tax year:

• 9/12 of the taxable profit share for the year ending 31 December 2024, plus
• 3/12 of the taxable profit share for the year ending 31 December 2025.

You might be thinking, so what, that seems reasonable? However, changing to a new basis causes upheaval for all those involved in preparing and submitting a tax return for a partner, especially when the source information comes from the firm.

The impact of BPR

1. Finance Teams

There is an element of hassle as each tax return will need to have details of taxable profit shares for two accounting periods.

The deadline for filing and paying the balancing amount of tax for the 2024/25 tax return is 31 January 2026. With all the will in the world, not all firms with a non-coterminous year end will have the finalised figures to provide partners with, so that these can be disclosed by partners on their tax returns by that date. Estimates will need to be used and provisional returns submitted and finalised at a later date.

2. 2023/24 tax year – the transition year

Additional profits will be brought into tax as a consequence of transitioning from the “old” to the “new” rules.  For a firm with a 30 April year end the partners will be taxed on the following:

• Taxable profit share for the year ending 30 April 2023, plus
• Transitional Profits
  • 11/12ths of the taxable profit share for the year ending 30 April 2024, less
  • Overlap profits brought forward.

For a firm with a 31 December year end the partners will be taxed on the following:

• Taxable profit share for the year ending 31 December 2023, plus
• Transitional Profits
  • 3/12ths of the taxable profit share for the year ending 31 December 2024, less
  • Overlap profits brought forward.

As the likelihood is that bringing in the “Transitional Profits” will increase the tax liability due for the 2023/24 tax year, HMRC have brought in an automatic spreading election. For individual partners, this results in one fifth of the transitional profits being taxed in each of the tax years 2023/24 to 2027/28.

A partner can, if they wish, accelerate the tax on the transitional profits at any time or indeed disapply the automatic election. If a partner retires or leaves the firm during the 5-year spreading period, then the untaxed transitional profits will be crystalised in the last tax year of being a partner at the firm.

3. Additional Tax due

The impact of assessing the Transitional Profits to tax is that additional tax will be due in 2023/24 and effectively due on 31 January 2025. If, however, the automatic election is taken advantage of then the additional tax due will be spread over 5 years as follows:

• 3/10^ths due 31 January 2025.
• 1/10^th due 31 July 2025.
• 1/10^th due on 31 January and 31 July 2026, respectively.
• 1/10^th due on 31 January and 31 July 2027, respectively.
• 1/10^th due on 31 January and 31 July 2028, respectively.

4. The taxing of non-trading income

There will be “Transitional Profits” for non-trading income: however, there is no spreading available. All the additional tax due will be assessed to tax in 2023/24 and the tax payable by the 31 January 2025.

5. The loss of working capital

It is usual in the UK for firms to hold tax reserves on behalf of partners and to settle their tax liabilities. The additional tax due on transitional profits will significantly impact cashflow for firms and erode working capital funded via tax reserves, potentially permanently.

Next steps

Impact on finance teams

For finance teams to provide the additional information to complete partners 2023/24 tax returns will be a burden. The teams need to be aware and plan for it in their timetables for the year ahead.

Understanding unintended consequences

It may seem that the right decision is to spread the transitional profits, but this may not be the case.

• If a partner’s taxable profit share is likely to straddle a higher rate tax band, as a result of the transitional profits, it may be tax efficient to either accelerate or disapply the automatic election to spread the transitional profits.
• For partners paying off student debt, taxable profits will increase as a result of BPR as will student loan repayments.
• In the event that income tax rates increase before 2027/28, it may be beneficial to accelerate the taxing of transitional profits.

Understanding the impact on the firm’s cashflow

It is important that firms plan for the additional taxes in their cashflow forecasts and that the firm is aware of the need to have sufficient funds in place to settle the taxes that will become due in the future.

Calculate the working capital and partner capital contribution
It is an ideal opportunity to review the capital contribution provided by partners and to think wider than just this additional tax arising on the transitional profits.

What are the future planned investments of the firm? Is there a refurbishment project, an office move, a new location, technological improvements? All these should be considered when considering capital contributions.

I have already seen several firms reassessing their working capital requirements and decide partners will need to contribute further to address potential short falls. Some firms may even feel it is appropriate that partners contribute personally out of undrawn profits.

It is always key for firms and individuals to speak to their banking partners as early as possible and ensure any changes required to working and partner capital are able to be enacted on a timely basis.

As January 2025 approaches, it is important action is taken as early as possible. My advice is for firms to plan ahead and ensure they are well prepared before the tax payment deadline.

Nicky Owen is head of professional practices group at national tax, audit, risk and advisory firm Crowe UK.