Cash basis accounting

Cash basis is a way to work out your income and expenses for your Self Assessment tax return, if you’re a sole trader or partner.

If you run a small business, cash basis accounting may be a more suitable method for you than traditional accounting. Cash basis accounting means you only need to declare money when it comes in and out of your business. At the end of the tax year, you won’t have to pay Income Tax on money you didn’t receive in that accounting period.

Cash basis might not suit ever business

Cash basis doesn’t fit every business and may not be right for you if:

·   You want to claim interest or bank charges of more than £500 as an expense.

·   You run a business that’s more complex, for example you have high levels of stock

·   You need to get finance for your business - a bank could ask to see accounts drawn up using traditional accounting to see what you owe and are due before agreeing a loan

·   You have losses that you want to offset against other taxable income (‘sideways loss relief’)

You can use cash basis if you:

·   Run a small self-employed business, for example sole trader or partnership

·   Have a turnover of £150,000 or less a year

If you have more than one business, you must use cash basis for all your businesses. The combined turnover from your businesses must be less than £150,000.

Business growth during the tax year

You can stay in the scheme up to a total business turnover of £300,000 per year. Above that, you’ll need to use traditional accounting for your next tax return.

Existing businesses using traditional accounting might have to make some adjustments when they switch to cash basis.

Exclusions to the scheme

Limited companies and limited liability partnerships are not permitted to use cash basis.

The following list is also some specific types of businesses that can’t use the scheme:

·   Lloyd’s underwriters

·   Farming businesses with a current herd basis election

·   Farming and creative businesses with a section 221 ITTOIA profit averaging election

·   Businesses that have claimed business premises renovation allowance

·   Businesses that carry on a mineral extraction trade

·   Businesses that have claimed research and development allowance

·   Dealers in securities

·   Relief for mineral royalties

·   Lease premiums

·   Ministers of religion

·   Pool betting duty

·   Intermediaries treated as making employment payments

·   Managed service companies

·   Waste disposal

·   Cemeteries and crematoria

What to do next

At the end of the tax year, work out your taxable profit from your cash basis income and expenses records.

‘Tick’ the cash basis box on the form when you send your return.

You can use cash basis for the 2013 to 2014 tax year onwards. If you’re sending a late tax return for tax years before this, you’ll need to use traditional accounting when working out your accounts.

Recording income and expenses

It is imperative that you keep accurate records of all business income and expenses to work out your profit for your tax return.  

Income

With cash basis, only record income you actually received in a tax year. Don’t count any money you’re owed but haven’t yet received.

You can choose how you record when money is received or paid (for example the date the money enters your account or the date a cheque is written) but you must use the same method each tax year.

All payments count - cash, card, cheque, payment in kind or any other method.

Expenses

Expenses are business costs you can deduct from your income to calculate your taxable profit. In practice, this means your allowable expenses will reduce your Income Tax.

Only count the expenses you’ve actually paid. Money you owe isn’t counted until you pay it.

Examples of allowable business expenses if you’re using cash basis are:

·   Day to day running costs, such as electricity, fuel

·   Admin costs, for example stationery

·   Things you use in your business, such as machinery, computers, vans

·   Interest and charges up to £500, for example interest on bank overdrafts

·   Buying goods for resale

For the 2013 to 2014 tax year onwards you can also choose to use the simplified expenses scheme instead of calculating expenses for:

·   Running a vehicle

·   Working from home

·   Making adjustments for living on your business premises

Cars and other equipment

If you buy a car for your business, you can claim the purchase as a capital allowance (but only if you’re not using simplified expenses to work out your business expenses for that vehicle).

Unlike traditional accounting, you claim other equipment you buy to keep and use in your business as a normal allowable business expense rather than as a capital allowance.

Record keeping

Records do not need to be sent to HMRC when you send in your tax return but you do need to keep them in case they ask to check them at a later date.

If you are VAT registered

You can start to use cash basis if you’re VAT registered as long as your income is £150,000 or less during the tax year.

You can record your business income and expenses either excluding or including VAT. However, you must treat income and expenses the same way.

If you choose to include VAT, you have to record:

·   VAT payments you make to HM Revenue and Customs (HMRC) as expenses

·   VAT repayments you receive from HMRC as income