What Are Your Options?
Every business faces ups and downs, and reporting a loss doesn’t necessarily mean your business is struggling. It could be down to various factors – strategic decisions, financial planning, or external conditions. If you’re a sole trader or in a partnership and you’ve made a loss, there are several tax relief options available to help you manage it.
Here’s a breakdown of the key ways you can use trading losses to your advantage.
Carrying Forward Losses
The default option for handling a trading loss is to carry it forward and offset it against future taxable income. This reduces your tax bill in those profitable years, but it does come with a few limitations:
- You must offset the loss against profits from the same trade. If your business changes direction, you may lose the ability to use the loss – although terminal loss relief may still apply in some cases.
- The personal allowance might go to waste, as losses are automatically deducted from profits before the personal allowance is applied.
One way to preserve those losses is through incorporation. If you transfer your business to a limited company in exchange for shares, the losses can be preserved and offset against your personal income, such as director’s fees, as long as the same trade continues.
Sideways Relief: Offset Losses Against Other Income
Another option is sideways relief, which allows you to offset your trading loss against your general income. You can choose to apply the loss to:
- The same year the loss occurred
- The previous year
- Both years, if the loss is larger than the taxable income in the year of first offset
By carrying back losses, you may even be eligible for a tax refund if you paid tax in the previous year.
For losses in the 2023/24 tax year and earlier, sideways relief can only be used if the losses were calculated using the accruals basis. From 2024/25 onwards, you can use sideways relief whether you calculate your profits on the cash or accruals basis.
The Annual Cap on Sideways Relief
There is a cap on how much sideways relief you can claim in a year. This limit is the greater of:
- £50,000, or
- 25% of your adjusted total income
This cap is designed to limit excessive loss claims. Like with carried-forward losses, sideways relief requires the losses to be fully offset until they are used up, meaning your personal allowance could be wasted.
Losses When Starting a Business
It’s common for businesses to experience losses in their early years. In fact, around 50% of businesses fail within the first three years. But if your business is new and makes a loss within the first four tax years, there’s a useful tax break available.
You can set the loss against your total taxable income for the three years before the year in which the loss occurred. This can be a valuable lifeline, but you must offset the loss against the earliest year first.
Again, for losses arising in 2023/24 and earlier, they must be calculated using the accruals basis. From 2024/25, you can calculate them using either the cash or accruals basis.
Terminal Loss Relief: When the Business Ends
If your business stops trading, you can claim terminal loss relief. This allows you to offset any losses incurred in the final 12 months of trading against profits from the current year and the previous three years. This can lead to a tax refund, helping you close the business with fewer financial pressures.
Practical Tip: Amending Tax Returns
If you’ve already submitted your tax return and realise you made a loss in the following year, you can still make a claim to carry back the loss. Simply amend your tax return within 12 months of the 31 January deadline for the relevant tax year.
If the 12-month window has passed, you won’t be able to amend the return online, but you can still write to HMRC to request the change.
Need Help Navigating Trading Losses?
If your business has made a loss, it’s important to know your options for tax relief. Whether it’s carrying losses forward, using sideways relief, or taking advantage of terminal loss relief, there are ways to minimise your tax burden.
At Jon Davies Accountants, we can help you plan effectively and make the most of your available tax reliefs. Get in touch with Jon and the team today, and let’s make sure you’re on the right track.
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