There wasn’t much good news to get excited about in this year’s Budget, but the temporary extension to carried back trading losses will be relevant to businesses which have been hit hard by lockdown.
If you made a loss last year and/or you are forecasting a bad year ahead, you may be able to carry back losses further than usual in order to claim a tax refund now and improve your cash flow. As always, the devil is in the detail, so let’s walk through the changes to loss relief rules step by step.
The new rules are of benefit to all trading businesses (whether incorporated or not). However, the rules for companies are much more complex due to group relationships, so we’ll focus on those here.
First, let’s recap the ‘old new’ rules…
Trading losses incurred after 1 April 2017 can be used in one of three ways:
Carried back against the prior year profits of the same company
Offset (Group Relief) against other profitable companies in the same group
Carried forward and used against future profits in the company, or other companies in the group.
This gives a lot of flexibility for use of profits going forward. However, this isn’t likely to give an immediate benefit for companies that have suffered significant losses during the pandemic, which in many cases are likely to exceed the profits of the prior year, with profits in the near future also looking uncertain.
So, what are the ‘new new’ rules?
For accounting periods ending between 1 April 2020 and 31 March 2022, trading losses can now be carried back for up to three years (on a last- in- first- out basis), rather than the usual one year. Up to £2m of losses can be carried back per year for a standalone company (so a maximum of £4m over the additional two-year period if the correct circumstances exist). A group of companies must allocate the £2m allowance between them.
The guidance issued by HMRC on Budget Day states that a claim to relief can only be made in respect of quantified losses. It is unclear whether they will expect a Corporation Tax return to be filed in respect of the full loss-making period, or whether they will accept provisional claims where management accounts clearly show significant losses for the year in progress. HMRC previously took a relaxed approach during the pandemic to allow provisional standard loss carry back claims to be made to save businesses from paying tax, when they knew they would later get a repayment. Further guidance will undoubtedly follow.
Where the carry back claim is lower than £200,000, claim can be made outside of the Corporation Tax return. The rules in respect of claims, elections, and in particular Group Relief are unchanged – if a Group Relief (or other) claim has been made and the time limit for amending the claim has passed, a company cannot amend that claim to permit additional loss carry back.
How do the changes to loss relief rules actually affect me?
If you have made a loss in any of the accounting periods ending between 1 April 2020 and 31 March 2022, you can carry back those losses three years, rather than the usual one. This time span seeks to cover losses in accounting periods hit by COVID-19, to permit relief against profits that arose before the pandemic.
Let’s assume a business has made a trading loss of £5m in the year ended 31 March 2021. If the same business had made profits of £3m in the prior year ending 31 March 2020, under the old rules, this profit could be sheltered by losses carried back, and the balance of £2m would carry forward.
Under the new rules, a further £2m could carry back to the further prior year ended 31 March 2019. If there were sufficient profits in 2019 to utilise that loss, an additional tax repayment at 19% (£380,000) would arise, and the 2021 losses fully utilised.
If the same business makes a further loss of £3m in the year to 31 March 2022, this too is available for three-year carry back. If there are still profits unrelieved in the 2019 year (after claiming relief for the 2021 loss) then a further £2m of losses can go back, again, potentially generating a further £380,000 repayment.
Groups with the opportunity to carry back significant losses more than one year will need to display some joined- up thinking, as they will have a combined cap of £2,000,000 eligible for carry back to each relevant accounting period. However, where individual companies only have relevant losses to carry back of £200,000 or less, they can go ahead and claim for the relief without waiting for the group position to be finalised. This may be especially helpful where a large group has more than one corporation tax advisor.
This is all good news?
For companies with cashflow difficulties, absolutely. The ability to recover up to £760,000 of Corporation Tax that was previously considered a sunk cost could be a gamechanger. It will take time to recover that tax, as the loss-making periods may need to end before competent claims (and repayments) can be made, or at best, be sufficiently progressed for a large enough loss to be quantified.
However, if – despite having made losses – cashflow isn’t an issue for your company, it may make more sense not to carry your losses back if you foresee profits in the near future. The Treasury has estimated that it will actually receive more Corporation Tax as a result of these changes – because by allowing companies to obtain relief at 19% by carrying back losses, they lose the opportunity to utilise them against future profits that may be taxed at 25% from 1 April 2023.
For unincorporated businesses, – the potential relief at Income Tax rates of up to 45% is that much higher and doesn’t come with a backdrop of future rate increases that potentially reduce the long-term benefit. However, carrying back losses that reduce your personal income may impact your ability to make other claims, such as in respect of EIS investments that have been made, so some caution is still advised.
What should we do now?
It may not be necessary to file a tax return for the loss-making year in order to make an extended loss carry back claim, but it will certainly help. Where possible, you should accelerate the timing of your accounts preparation so you can also bring forward your tax work and get ready to make a claim as soon as possible. We would advise you to speak to your tax advisor to ensure you maximise the available relief to your company or group and that you don’t lose out.
One final note. Where you are relying on the extended loss carry back rules, these claims will not be valid until Finance Bill 2021 receives Royal Assent. This is unlikely to happen until the summer, and so even if you know you will make a claim, you will need to plan your tax cashflows with this in mind.