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Cash Basis Written On Notepad With A Pen, Calculator And Maginifying Glass

What is the cash basis?

Under the cash basis (an individual carrying on a trade may currently elect to calculate their profits on a ‘cash in, cash out’ basis rather than using the traditional accruals method of accounting.  This method ignores any bills that are unpaid and does not account for stock. This was simpler for many individuals but there were some significant restrictions in place that often made this choice unpopular.

Not all unincorporated businesses have been allowed to use the cash basis in the past. For example, to enter into the scheme, turnover from the business had to be £150,000 or less (doubled for Universal Credit claimants) for the year. To stay in the regime, the turnover could not exceed £300,000.

Last year the government announced that significant changes would be made to the cash basis in order to enable more businesses to use it and these came into effect in April 2024.

The changes to the cash basis

The turnover test referred to above has been removed and this means that most sole trades and partnership ( subject to some exclusions) will be able use the cash basis if they choose to.

In addition, some of the restrictions placed on claiming relief under the cash basis have also been removed, which will make it more attractive to a wider range of businesses. This includes:

  • The removal of the cap on deductions for interest. The maximum deduction for interest used to be limited to £500 per year. This restriction is being removed entirely.
  • More options for loss relief. From 6 April 2024, a loss calculated using the cash basis may be offset in the same way as a loss calculated on the accruals basis, whereas before, this was restricted.

Should I change to the cash basis?

Whilst it may seem simpler to use the cash basis, there are some points to consider when making that decision.

  • There will be a transitional adjustment that would be required to move on to the cash basis. Broadly speaking, the rules ensure that no item of income is taxed twice, no item of expense is relieved twice and that no items of income or expense are left out of account completely. This means that there should not be any overall impact on the amount of profits recognised, but there may be a cash-flow impact of transitioning to the cash basis.
  • There may be an impact on overall tax paid if you move from one tax bracket to another in the year of transition due to the timing of income receipts.
  • If you have outstanding finance on assets there maybe a negative impact on your profit in the transitional year leading to a higher tax liability in that 12 months.
  • If you have substantial stock, the transitional year will allow a full deduction for the stock on hand and this can lead to a drop in taxable profit.
  • The cash basis requires complex adjustments for capital assets used for both business and private purposes. As an example, For instance, a decrease in business use is considered the sale part of the asset at its current market value. Using the accruals basis makes it easier to account for the private use of capital assets.
  • In years where the 100% capital allowance is available on assets purchased, and this exceeds your profit, you cannot opt to claim only part of the balance and carry the balance forward against future profits. This will lead to additional tax being paid.

Other considerations

In addition to considering the cash-flow impacts of any transitional adjustments, you should also consider the following points.

  1. Cash accounting does not give a true picture of business performance. By simply holding back on paying bills you can make a business appear more profitable. On the flip side, if a large customer does not pay you, it will reduce the profit. This can lead to fluctuating profits and, hence, unpredictable tax liabilities.
  2. If you need to apply for finance or a grant, you will probably be required to prepare accounts on the accruals basis for all the reasons in 1. above
  3. If you are already using accounting software or have good business records you are probably already likely to have credit-control procedures in place that will be keeping track of debtors and creditors. Most business owners need to know what the owe and are owed so there is not a lot of time to be saved in using the cash basis.

In Conclusion

Whilst the cash basis offers simplified record keeping it is important that you take advice to check it is right for your business and you understand the implications of changing and in particular the adjustments required in the transitional year.

If you need help, please contact us.



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