How to Even Out Farm Profit to Reduce Tax Burden
Farming profits can be averaged over a period of two or five years, subject to certain conditions being met. This practice helps in smoothing cashflow for tax and national insurance payments, potentially leading to savings in both areas. It can also assist in reducing tax liabilities by taking taxpayers out of higher rate bands or resulting in tax refunds.
Two-year averaging is applicable when one year’s profits are significantly lower than the other year’s by 75% or if one year shows either no profit or a loss. On the other hand, five-year averaging can be utilized when the average of the previous four years’ profits is less than 75% of the fifth year’s profits, or if the fifth year’s profits are less than 75% of the average of the previous four years’ profits. Losses are considered as nil for the averaging rules, and loss relief remains available.
Averaging claims can only be made for farming profits, by sole traders or farming partnership members, and if the business uses the accruals basis of accounting. Averaging does not alter the tax return or the amount of tax and national insurance contributions paid in earlier years, but adjustments are considered in the latest tax year of the claim.
Moving forward from the 2024-25 tax year, unincorporated businesses will be taxed on profits arising in the tax year, regardless of their accounting year, under the basis year reform. Transitional rules are in place for the tax year 2023-24, which requires businesses to apportion profits or losses to match the tax year.
Averaging claims must be made in personal self-assessment tax returns within 12 months of the deadline. It is essential to follow the rules and guidelines when employing family members on the farm, ensuring compliance with wage rates and tax obligations. Additionally, businesses can benefit from claiming capital allowances for energy-efficient equipment, providing a tax relief of up to 100% in the year of purchase. This is in addition to the annual investment allowance of £1m, available for a wide range of energy-efficient products listed on the Energy Technology List.
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Maria Sanchez completed her Bachelor’s degree in Plant Sciences from the University of California, Davis, in the USA. Her studies focused on plant genetics and biotechnology, with an emphasis on developing disease-resistant crop varieties. Maria has contributed to several research projects aimed at improving crop resilience to climate change and is now pursuing her Master’s degree in Plant Breeding.