HMRC has stated it wants to be one of the world’s most digitally advanced tax administrations, and the government describes its Making Tax Digital initiative – which will affect VAT, income tax and corporation tax – as ‘a key part of plans to make it easier for individuals and businesses to get their tax right and keep on top of their affairs’. And it may well be, but it also means a lot of disruption.
In this article we're focusing on the key points of Making Tax Digital for Income Tax, which will have an impact when it comes to reporting business profits, and which becomes law in April 2024.
Who is affected?
People affected by the new legislation include self-employed businesses and landlords with annual business or property income above £10,000.
Certain types of partnership, such as those including a corporate partner, don’t yet have to sign up. Other exemptions include trusts and estates. If you think you may be exempt, check to be certain.
For Limited Companies Making Tax Digital is coming later
When does it take effect?
People affected will need to follow the rules for MTD for Income Tax from the accounting period starting on or after 6 April 2024.
There’s no additional time awarded if your accounting period runs to 31 March; for tax purposes, the period ending 31 March 2024 will be assumed to have ended 5 April 2024, meaning everyone affected joins MTD on 6 April 2024. Let’s hope their systems are robust enough to handle the intake!
What will change?
You likely already submit your tax return via HMRC’s online portal. However, Making Tax Digital takes things further, by requiring you to use approved software for your accounting that can report information direct to HMRC.
There are four main activities:
1. Keep digital records, and preserve them for the legal retention period.
2. Submit quarterly updates per income source to HMRC.
3. Submit an End of Period Statement (EOPS) per income source to HMRC.
4. Submit a Final Declaration to HMRC (instead of a Self Assessment tax return).
Information can initially be entered into the accounting system via a spreadsheet. However, once that’s been done, it can’t be manually altered – you can’t retype anything. Instead, data must be moved using digital links.
While the whole point is to create a digital system, provided the information is digitally recorded within the accounting system, paper invoices may still be issued.
Personal Tax Account
HMRC will set up a Personal Tax Account (PTA) for each individual, which will act as a digital central record for income, expenses, tax claims and tax affairs. (If you currently file Self Assessment tax returns, you’ll already have a PTA.)
There are three types of submission to be made over the course of the tax year: quarterly updates, an annual End of Period Statement (EOPS); and a Final Declaration, which replaces the current Self Assessment tax return.
The quarterly submission is effectively a rough profit and loss account. It shows the totals for the quarter of:
- sales income for each income source
- purchases/expenses, in defined categories, for each income source
You can submit estimated figures in the quarterly submissions; there isn’t a declaration of accuracy attached to the information. (That will be made on submission of the EOPS.) The expenses categories are expected to be the same as those in the existing Self Assessment tax return. Quarterly balance sheet statements won’t be required.
The quarterly filing deadlines will be the 5th of August, November, February, and May. Bearing in mind the start date of 6 April 2024, the first mandated MTD submission, covering the quarter to 5 July 2024, needs to be made by 5 August 2024. HMRC say there will be no penalties applied until four quarterly submissions have been filed late; however, some information must be submitted each quarter.
While the quarterly submission will be used to calculate an estimate of the business’s tax liability throughout the year, the current timing of tax payments won’t change.
End of Period Statement
Any accounting adjustments will be made on the EOPS, which must be submitted by 31 January following the end of the tax year. A separate EOPS will be required for each trade or property business.
The Final Declaration pulls everything together. This is where you tell HMRC about any sources of income not reported via the quarterly submissions or EOPS, and claim any reliefs due.
It is this that effectively replaces the Self Assessment tax return and is used to calculate the definitive tax liability for the year. (Prior to this, you will have seen estimates based on the quarterly submissions.)
Impact on reporting
The minimum impact this will have on reporting is an increase from one submission per year to six – that would be a single source of income, resulting in four quarterly submissions, an EOPS, and a Final Declaration. The maximum could be many more. For example, if you are a sole trader and a landlord, then you will have to submit a quarterly return and an EOPS for each source of income, plus a Final Declaration, meaning your number of submissions per year will go from one to eleven. If you are VAT registered you can add another four reports to that.
A live pilot aimed at testing and developing the Making Tax Digital service for Income Tax is already underway and, if you wish, you can volunteer to get involved early and try out the system.
Make sure you’re on top of MTD
Making Tax Digital for Income Tax is more complex than can be comprehensively covered in a couple of pages, but this should give you a reasonable overview of what to expect. It might seem like April 2024 is far enough away not to have to worry about things just yet. However, it’s not that long a time to make sure you have everything in place.
CALL TO ACTION?
We’ll keep you informed as the deadline comes ever closer to help you be prepared for the changes. If you want to talk things over in the meantime, feel free to get in touch.
Steps to take now to help prepare for MTD
· Sole traders or partnerships: make sure all your business income and expenses flow through one bank account.
· Landlords: make sure all your property income and expenses flow through one bank account.
· Have a separate bank account per income source. For example, if you have sole trader and property income ensure that they both run through separate bank accounts.
· Personal expenses: keep these in your personal bank account and out of any business bank account(s).
· Business expenses: pay these out of the business bank account that they relate to.
· Property expenses: pay these out of the property bank account that they relate to.
· Receipts: obtain and retain receipts for all business and property expenses.
Cash in and out:
· Drawings for self: ideally take one monthly (or weekly) amount.
· Capital introduced: if your business account is short of money don’t pay business expenses from elsewhere; instead, introduce money into the business or property account from a private account and then pay the expenses from the business bank account. Ensure your records note this or write on the bank statement where the funds came from.