Simplifying Accounting: The Extension of Cash Basis for Unincorporated Businesses

For those running unincorporated businesses, whether as sole traders or in partnerships, a significant change is coming in how you can prepare your accounts. From 6 April 2024, the cash basis method is set to become the default approach for accounts preparation. Let’s explore what this means and how it compares to the accruals basis.

Cash Basis vs. Accruals Basis

The cash basis is a straightforward method of accounting. It recognises income only when it’s received and expenses when they’re paid. There’s no need to match income and expenses to the period they belong to, making it unnecessary to account for debtors, creditors, prepayments, or accruals. Plus, with income recognized upon receipt, bad debt relief is automatic.

Under the cash basis, we can deduct capital expenditures from profits, except in certain cases like expenditures on land, buildings, and cars. For tax years up to 2023/24, businesses with a turnover of £150,000 or less could opt for this method, with certain restrictions on interest deductions and loss relief.

The accruals basis, on the other hand, requires matching income and expenditure to the period they relate to. This necessitates calculating debtors, creditors, prepayments, and accruals. Under this method, capital expenditures aren’t directly deductible; instead, relief is provided through capital allowances. The accruals basis offers more flexibility in terms of interest deductions and loss relief options.

Changes from the 2024/25 Tax Year

Starting with the 2024/25 tax year, the turnover threshold for the cash basis is removed. All unincorporated businesses will automatically use the cash basis unless they choose to opt for the accruals basis. The previous limitations on interest deductions and loss relief under the cash basis will no longer apply. This means businesses using the cash basis can deduct all interest and finance costs in full and have the same flexibility in using losses as those using the accruals basis.

Transitioning Between Methods

Switching between the accruals and cash basis requires careful adjustments to ensure all income is taxed once and all expenses are accounted for once. Without these adjustments, there’s a risk of double taxation or missing out on tax relief. For example, if a business under the accruals basis bills £5,000 in March 2024 but receives payment in April 2024 under the cash basis, adjustments are needed to avoid taxing the same income twice.

 

This shift to the cash basis as the default accounting method represents a move towards simplification for many of us running unincorporated businesses. It’s essential to understand these changes and make informed decisions about which accounting method best suits our business needs. As always, it’s advisable to seek professional guidance to navigate these changes effectively.

 
 
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Any questions?

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