Cash basis by default
For 2024/25 and later tax years, unless they elect otherwise, unincorporated businesses must prepare their accounts and calculate their taxable profit using the cash basis. This is a reversal of the position applying for 2023/24 and earlier tax years, where the accruals basis was the default, but traders who were eligible to use the cash basis could elect to do so if they preferred. To enable the cash basis to operate by default, the restrictions which applied previously have been lifted.
Cash basis v accruals basis
The cash basis works on a cash in and cash out approach. Income is only taken into account when received, and expenses when paid. Consequently, there is no need to account for debtors and creditors or prepayments and accruals. As income is not recognised until received, relief for bad debts is automatic.
By contrast, the accruals basis matches income and expenditure to the accounting period to which they relate. This necessitates the computation of debtors and creditors and prepayments and accruals.
Removal of cash basis restrictions
For 2023/24 and earlier tax years, traders were only able to elect to use the cash basis if their turnover (as computed under the cash basis) was £150,000 a year or less. Once in the cash basis, they could remain in it until their turnover reached £300,000; once turnover reached this level, the trader had to move to the accruals basis. The turnover limits are removed from 2024/25.
Under the cash basis as it applied for 2023/24 and earlier tax years, traders were only able to deduct interest and finance cost up to a maximum of £500 a year. The cap does not apply from 2024/25, enabling traders to deduct all allowable interest and finance costs.
The cash basis rules as they applied for 2023/24 and earlier tax years also imposed restrictions on the ways in which losses could be used. Prior to 2024/25, where accounts were prepared under the cash basis, it was not possible to relieve the loss sideways against income of the current and previous tax year. The ability to carry a loss back in the early years of a business against income of the previous three years was also denied where the cash basis was used. These restrictions have been lifted from 2024/25.
Accruals basis election
For 2023/24 and earlier tax years, traders who did not elect to use the cash basis simply prepared their accounts using the accruals basis by default. As the cash basis is the default basis from 2024/25, traders who wish to continue to use the accruals basis will need to elect to do so.
Moving between the cash basis and the accruals basis
To prevent some income and expenditure being counted twice and some not being included at all, adjustments are needed when moving between the cash basis and the accruals basis and vice versa. Adjustments may also be needed where capital allowances have been claimed under the accruals basis but the expenditure has not been relieved in full to ensure relief is given for the balance of the expenditure.