How many years can you offset losses?

The loss can be offset against other income in the three previous tax years 2020/21, 2019/20 and 2018/19, starting with the earliest year first.

litrg.org.uk - What if I make a loss? | Low Incomes Tax Reform Group

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What are trading losses?

If you are self-employed or a partner in a partnership, you will make a loss in your business, whenever your tax adjusted expenses and capital allowances are more than your sales income or turnover for your accounting period. You work out your loss the same way as you would work out your profits for the year, using either the accruals basis or cash basis.

Example

Tom's accounting year ends on 31 March. In the year to 31 March 2022 Tom had the following income and expenses:

Turnover or income: £10,000

Expenses: £15,000

Capital allowances: £2,000

Tom's accounting year ends in 2021/22 and so this means that Tom has a loss of £7,000 (10,000-15,000-2,000) for the 2021/22 tax year. Even if Tom didn’t claim his capital allowances in the year to 31 March 2022 he would still have made a loss, albeit a smaller loss. Sometimes it can be beneficial not to claim capital allowances. We explain more about this in our article ‘What you need to know about claiming tax relief for a self-employed loss in 2020/21.’ If you have more than one trade, each one is considered separately for loss relief purposes so that you can choose to use one loss relief for one trade and a different loss relief for a second trade. The interactions are complex, though, so you may wish to seek further help with this.

What if I usually claim the trading allowance but have made a loss?

If you are considering using the trading allowance but have made trading losses then it may be more beneficial not to claim the trading allowance and claim tax relief for your trading losses instead.

How does the tax relief work?

Just to remind you – when we refer to a tax year we are talking about the year ended on 5 April – so 2021/22 is the tax year ended 5 April 2022.

Tax relief is given by

offsetting a loss arising in a tax year against other taxable income and, in some circumstances, capital gains in either the same or a different tax year, so that the amount of income or capital gains that is taxable is lower than it would be if the loss was not set off against it, The income tax due (or capital gains tax as the case may be) is then calculated on the taxable income (or gain) after the amount of the loss is deducted. This means that less tax is payable than would otherwise be the case. In some circumstances a refund of tax already paid (for example tax deducted under PAYE) may be due. There are several different ways in which tax relief for losses can be given. We set out each option below, explaining the qualifying criteria and using examples, to help you decide what method of relief to claim. Each loss relief, including which accounting basis you need to use and the time limit for making the claim, is summarised in the table at the end of this section. In all cases, the loss must have been created by a self-employment which is genuinely being carried on with a view to making a profit; losses arising from a hobby will not qualify for loss relief. There are different time limits for each claim and they are usually strictly applied. See the table at the end of this section for the relevant limit for each loss relief. There is a cap on the amount of income tax relief that an individual can benefit from. This limit or cap restricts the amount of loss relief an individual can claim. The maximum relief an individual can claim is usually the greater of £50,000 and 25 per cent of their annual income. This cap does not apply to losses used against profits of the same trade. If you spend less than 10 hours per week working for your business then your loss relief may be restricted further to £25,000. For the 2020/21 and 2021/22 tax years the cap has been increased to £2,000,000 when using the ‘extended carry back’ rules.

You can find out more information in HMRC's Helpsheet HS227 on losses.

1. Set loss off against other income of the same year and/or the previous year You can set the loss from your self-employment against your other taxable income in the same tax year in which you made the loss and/or the tax year prior to that in which you made the loss. This reduces the tax that would otherwise be payable on your other income. This is known as sideways loss relief.

The loss must have been calculated using the accruals basis of accounting.

Example: Kurt

Kurt made a loss on his self-employment of £8,000 for the tax year 2021/22. During that year he was also employed and earned £30,000, which he had paid taxon under PAYE. He can set the loss against his employment income in the same tax year, leading to a refund of some of the tax he paid via PAYE:

Kurt’s tax position for 2021/22

Income Tax deducted £ £ Employment income 30,000 3,486 Self employment loss -8,000 22,000 Less personal allowance - 12,570 Income on which tax is due 9,430 Tax due at 20% 1,886 Less: tax deducted from employment income -3,486 Tax refund due -1,600

Example: Chandler

Chandler made a loss in his first year of self-employment of £2,000 for the tax year 2021/22. He had no other income in 2021/22 but in 2020/21 he had been employed and had PAYE income of £18,000. Chandler can set off the loss of £2,000 against his employment income in 2020/21, leading to a refund of some of the tax paid under PAYE for that year:

Chandler’s revised tax position for 2020/21

Income Tax deducted £ £ Employment income 18,000 1,100 Self-employment loss from 2021/22 -2,000 Total taxable income 16,000 Less personal allowance - 12,500 Income on which tax is due 3,500 Tax due at 20% 700 Less: Tax deducted from employment income -1,100 Tax refund due -400 You usually make a claim for loss relief on your Self Assessment tax return,. You will need to complete the self-employment (short) tax return pages (page 2), or the self-employment (full) pages (page 4) to claim the loss. A stand-alone loss claim can be made in some circumstances by writing a letter to HM Revenue & Customs (HMRC) with the relevant information provided you are within the appropriate time limits. This is explained in the HMRC helpsheet HS227 on losses. You need to be careful because you cannot choose how much of the loss to use. All of it is set against your other income until either the loss is completely used up or there is no income left. This means that you may not be able to fully use certain reliefs such as your personal allowance.

Example: Monika

Monika made a loss on her self-employment of £5,000 for the tax year 2021/22 During that year she also had part-time employment and earned £14,500 but had no other income. She can set the loss against her employment income, but her personal allowance for 2021/22 is £12,570, so by using the loss in this way, her total taxable income falls below the level of the personal allowance.

Monika’s tax position for 2021/22

Income Tax deducted £ £ Employment income 14,500 386 Self-employment loss -5,000 Total taxable income 9,500 Less personal allowance - 12,570 Income on which tax is due 0 Tax due at 20% 0 Less: Tax deducted from employment income -386 Tax refund due -386 Claiming the loss relief in this way will waste some of her personal allowance. She may choose to use an alternative loss relief. 2. Set loss off against capital gains of the same year and/or the previous year You can set the loss from your self-employment against capital gains in the same tax year in which you made the loss and/or the tax year prior to that in which you made the loss. However, you must offset the loss against any other income in the tax year first (before setting it off against capital gains). So, you can only set a self-employment loss against a capital gain to the extent the amount of the loss exceeds the other income in the tax year.

The loss must have been calculated using the accruals basis of accounting.

Example Usman

Usman made a loss on his self-employment of £8,000 for the tax year 2021/22. During that year he was also employed part time and earned £5,000. He also made a capital gain on the sale of some shares of £14,000. He must first set the loss against his employment income of £5,000, and then he can set the remaining part of the loss of £3,000 against the capital gain:

Usman’s tax position for 2021/22

Income £ Employment income 5,000 Self-employment loss -5,000 Total taxable income 0 Less personal allowance - 12,570 Income on which tax is due 0 Capital gain 14,000 Less remainder of self-employed loss -3000 Total gains 11,000 Less: capital gains tax annual exemption -12,300 Taxable gains 0 As Usman’s employment income would not be taxable anyway because it is less than the personal allowance there is no income tax saving arising from offsetting the loss against his other income in 2021/22. Also, by using the remainder of the loss against the capital gain, some of the capital gains tax annual exempt amount is wasted. Therefore, this may not be the best way to use Usman’s loss, and he should look at other ways of getting tax relief for this loss to see if it gives a greater tax saving. This method of loss relief is only likely to be beneficial if there is no other income in the tax year in which the loss is used, so the loss can just be offset against any capital gain and no personal allowance is ‘wasted’.

3. Set loss off against profits in a future tax year

You can carry forward a loss and offset it against profits of the same self-employment in a future year. This is generally the default position if the loss cannot be used in any other way. This is likely to reduce the tax that would otherwise be due in a future tax year The loss must be used as soon as possible, so in the first tax year after the loss-making year in which you make a profit. If it is not all used in one tax year, any balance is carried forward to the next tax year in which there is a profit. The loss can be calculated using either the accruals basis or cash basis of accounting.

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Example: Kasper

Kasper uses the cash basis for preparing his accounts.. During the 2021/22 tax year he purchased a new work van and so made a loss of £7,000 in that tax year. Kasper does not have any other income. Due to advance orders he knows he will be profitable in the 2022/23 tax year. As Kasper is not using any other loss relief he must carry the loss of £7,000 from 2021/22 forward and offset it against profits from the same self-employment in the next tax year in which he makes a profit. During 2022/23 Kasper’s business profits are £22,000 and therefore he must use the loss carried forward of £7,000 and offset it against his profits in 2022/23:

Kasper’s income tax position for 2021/22 and 2022/23

Self-employment profit

Income 2021/22 2022/23 £ £ Self-employment profit 0 22,000 Less self-employed loss from 2021/22 -7,000 Total taxable income 0 15,000 Less personal allowance - 12,570 -12,570 Income on which tax is due 0 2,430 Income tax due at 20% 0 486

Special situations

4. Offset loss from 2020/21 or 2021/22 against profits in a previous tax year using ‘extended carry back’ rules A temporary additional tax relief measure has been introduced for losses arising in the 2020/21 and 2021/22 tax years only. In certain circumstances this allows you to offset at least some of the loss against trading profits in a previous tax year. This reduces the tax due for the tax year in which the loss is offset, and a repayment of tax will usually arise.

The loss must have been calculated using the accruals basis of accounting.

Before a loss can be used under these rules, you must either:(a) have used some of the loss against other income of the same and/or previous tax year (see section 1 above), or (b) not be able to use any of the loss in this way as you had no income in either of those tax years A loss arising in 2020/21 can be offset against profits in tax years 2019/20, 2018/19 and 2017/18 in specific circumstances. A loss arising in 2021/22 can be offset against profits in tax years 2020/21, 2019/20 and 2018/19 in specific circumstances. This measure is complicated, so to see how this kind of loss relief works it is best to look at an example.

Loss in 2021/22

Example: Selma

Selma is a self-employed personal trainer who lives in England. Her business has been profitable for many years but in 2020/21 she had virtually no work due to the coronavirus restrictions, then in 2020/21 she had an accident and had to substantially reduce her work . Her self-employed taxable profits/losses for recent tax years have been as follows:

2018/19 £8,050 profit 2019/20 £6,420 profit 2020/21 £1,450 profit 2021/22 £(5,650) loss

She is also employed part-time in a local shop. She was earning £12,000 per year until 2021/22 when her hours were cut and so she had employment income of only £1,200 in 2021/22.

Selma’s tax position for recent tax years is as follows:

Income 2018/19 2019/20 2020/21 2021/22 £ £ £ £ Employment income 12,000 12,000 12,000 1,200 Self-employment profit 8,050 6,420 1,450 Total taxable income 20,050 18,420 13,450 1,200 Less personal allowance - 11,850 -12,500 -12,500 -12,570 Income on which tax is due 8,200 5,920 950 0 Tax due at 20% 1,640 1,184 190 0 Selma must first satisfy (a) above. This means she must offset her loss of £5,650 in 2021/22 against her other income in 2021/22 and/or her total income in 2020/21. As Selma’s total income in 2020/21 (£13,450) is only slightly more than her personal allowance for that year, she will be paying very little tax in that year so there is no point in Selma offsetting all her loss against her other income in 2020/21 as the tax repayment will only be £190. Therefore, she will need to offset her loss against her other income in 2021/22. But as Selma’s income in 2021/22 is only £1,200 she is not paying any tax in that year either as this is less than her personal allowance for that year. But she decides she must do this to be able to obtain a higher tax refund overall using this relief. Once she has done this she has met (a) above. She has used £1,200 of her loss but still has £4,450 (£5,650- £1,200) left. She can now offset the remaining £4,450 against profits from her self-employment from the tax year 2020/21, 2019/20 and 2018/19. She must first use it against profits in 2020/21, and if there is any loss remaining she can use it against profits in 2019/20, and if there is still some loss remaining, she can use it against any profits in 2018/19.

So for those years, her taxable income now becomes:

Income 2018/19 2019/20 2020/21 2021/22 £ £ £ £ Employment income 12,000 12,000 12,000 1,200 Self-employment profit 8,050 6,420 1,450 Less self-employment loss -3,000 -1,450 -1,200 Total taxable income 20,050 15,420 12,000 0 Less personal allowance - 11,850 -12,500 -12,500 -12,570 Income on which tax is due 8,200 2,920 0 0 Tax due at 20% 1,640 584 0 0

So Selma has set off the loss as follows:

Tax year Amount of loss Tax saving £ £ £ 2021/22 1,200 0 2020/21 1,450 190 2019/20 3,000 600 2018/19 0 0 5,650 790 Selma’s total tax refund is £790. She did not have enough loss to offset any against her profits in 2018/19. If Selma’s loss was larger, say £10,650, then she would have been able to offset some loss in 2018/19 too and also get a tax refund from that tax year. If, when satisfying (a) above, Selma had offset her loss in 2020/21, then she would only have been able to offset the rest of her loss in the 2019/20 and 2018/19 tax years (in that order.) If Selma had no other income in 2020/21 or 2021/22 (so (b) above applies) the loss can be offset against any trading profits in 2019/20 and then, if any loss is still left, against profits in 2018/19.

For more information on this new temporary loss relief see GOV.UK.

5. For a new self-employment, offset a loss from the early years (first four tax years) of a business against income from previous years For a new self-employment business, if the loss occurs in any of the first four years of trading you can set it against your total taxable income of the three tax years immediately before the loss year, starting with the income of the earliest year first. This reduces the tax due on this income, and a repayment of tax is usually generated.

The loss must have been calculated using the accruals basis of accounting.

To see how this kind of loss relief works it is best to look at an example.

Example: Jules

Jules was employed for many years, but in 2020/21 he decided to leave his employment and start up his own self-employed delivery business. His employment income and self-employed profit and losses have been as follows: Tax Year Profit / (loss) Employment Income 2018/19 £15,000 2019/20 £18,000 2020/21 £3,000 £9,000 2021/22 (£20,000) Jules made a small profit in his first period of trading, but then decided to invest in a new van and some equipment and so he made a substantial loss in 2021/22. As 2021/22 is the second tax year he has been trading, he qualifies for tax relief under these rules. The loss can be offset against other income in the three previous tax years 2020/21, 2019/20 and 2018/19, starting with the earliest year first.

After the offsetting of the loss, Jules’ tax position becomes as follows:

Income 2018/19 2019/20 2020/21 2021/22 £ £ £ £ Employment income 15,000 18,000 9,000 Self-employment income 3,000 0 Less self-employment loss -15,000 -5,000 Total taxable income 0 13,000 12,000 0 The loss claim reduces the taxable income in 2018/19 to £0 from £15,000, and in 2019/20 it reduces the taxable income from £18,000 to £13,000. The tax due for those years is recalculated, which means tax will now be overpaid for those two tax years and this will be refunded.

6. Offsetting losses arising when a business ceases.

If your self-employment business finishes and you make a loss in your final 12 month period, you can set this against trading profits of the previous three tax years, latest year first. This reduces the tax due on this income, and a repayment of tax is usually generated. The loss can be calculated using either the cash basis or the accruals basis of accounting. These rules are quite complicated, so we have deliberately chosen a business with a 31 March year end as this makes things much easier. Sarah has run a café for many years, but due to coronavirus lockdowns in the spring and summer of 2020 and rising rental costs she struggled to keep the business going and in the end she closed the café permanently in December 2021.

Her self-employment profits and final loss were as follows:

Profit/(loss) Year to 31 March 2019 £15,000 Year to 31 March 2020 £25,000 Year to 31 March 2021 £10,000 9-month period to 31 December 2021 (£15,000) Sarah’s final 12 months of trading is the period from 1 January 2021 to 31 December 2021. Firstly, Sarah needs to work out her loss for this final 12-month period. It is made up of: 9 months to 31 December 2021 Loss £15,000 3/12ths of 12 months to 31 March 2021 Loss £nil The loss for the period is calculated as £15,000. This is the loss for the last nine month period plus any loss for the previous three months. As those three previous months had a profit, the amount of the loss is taken to be £nil. This is called the terminal loss. This loss has arisen in 2021/22 and may be offset against self-employment profits from the previous 3 tax years, 2020/21, 2019/20 and 2018/19, starting with the most recent of those years, ie 2020/21. Income 2018/19 2019/20 2020/21 202/22 £ £ £ £ Self-employment profits 15,000 25,000 10,000 0 Less: self-employment loss -5000 -10,000 Total taxable income 15,000 20,000 0 0 Less; personal allowance -11,850 -12,5000 -12,500 -12,570 Income on which tax is due 3,150 7,500 0 0

The loss is therefore used as follows:

2020/21 £10,000 (used against all trading profits) 2019/20 £5,000 (balance)

Summary of the key features of the main loss relief claims

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The table below shows all the different loss claims and the key points relating to each for ease of reference. Also see above for the temporary extended carry back rules for the 2020/21 or 2021/22 tax years. Accounting basis Special Circumstance Type of loss relief Time limit Top tips Accruals basis Use the loss in the current tax year and set it against all of your income including income from savings. Claim within one year from 31 January after the end of the loss-making tax year. For example, if a trader made a loss for the 2021/22 tax year. They will need to make a claim by 31 January 2024. Be careful when using this loss relief because you cannot choose how much of the loss to use. All of it is set against your other income until there is no income left. This means that you may not get the benefit of other tax reliefs such as your personal allowance. Accruals basis Carry the loss back to the previous tax year and set it against all of your income including income from savings. Claim within one year from 31 January after the end of the loss-making tax year. For example, if a self-employed trader made a loss for the 2021/22 tax year. They will need to make a claim by 31 January 2024. If you have more losses than your income in the current and previous tax years then you can decide to claim loss relief in both the current year and carry back to the previous tax year, however you need to decide which claim is to be made first. The fact that you are claiming the relief in more than one tax year means that you are wasting personal allowances in at least one of those years. Accruals basis For new businesses – if the loss occurs in any of the first four years of trading. Set the loss against your total income of the three tax years immediately before the loss year, starting with the income of the earliest year first. Claim within one year from 31 January after the end of the loss-making tax year. For example, if a self-employed trader made a loss for the 2021/22 tax year. They will need to make a claim by 31 January 2024. You may lose some or all of your personal allowance as this loss relief goes against your total income. If you claim this relief over more than one tax year you will lose at least all of one tax year’s personal allowance. Accruals basis You can carry the loss forward against profits of the same trade in a future year. Claim within four years from the end of the loss making tax year. So, if self-employed and made a loss in the 2021/22 tax year. You will need to make a claim by 5 April 2026. Accruals basis Your business ceases to trade and you make a loss in your last 12 months. You can set this loss against your trading profits of the previous three years, latest year first. Claim within four years from the end of the tax year the business ceased trading. For example, if a trader made a loss and stopped trading during the 2021/22 tax year. They will need to make a claim by 5 April 2026. Terminal loss relief claims can be very complex as you may need to take into account overlap relief. Cash basis You can carry the loss forward against profits of the same trade in a future year. Claim within four years from the end of the loss making tax year. So if self-employed and made a loss in the 2021/22 tax year. You will need to make a claim by 5 April 2026. The cash basis restricts how you can utilise trading losses. It should be possible to change to the accruals basis as having trading losses would be classed as a commercial reason to leave the cash basis. Cash basis Your business ceases to trade and you make a loss in your last year. You can set this loss against your trading profits of the previous three years, latest year first. Claim within four years from the end of the tax year the business ceased trading A self-employed trader made a loss and stopped trading during the 2021/22 tax year. They will need to make a claim by 5 April 2026. Terminal loss relief claims can be very complex as you may need to take into account overlap relief.

Do I also get National Insurance relief for a loss as well as income tax relief?

This will depend on which way you choose to get income tax relief for the loss. If you choose to use a relief which means you offset a loss against trading profits of either the same or a different tax year then you may automatically get National Insurance relief too. But if you choose to offset your loss against a different type of income such as employment income then you will not get any National Insurance relief at the same time. We look at this in more detail in a news article: ‘What you need to know when claiming tax relief for self-employed losses in 2020/21.’

How are tax credits and universal credit affected by losses in my business?

Tax credits

In a number of situations, the way you get tax relief for losses you make in your business will be very different from the tax credit rules for using the same losses. In particular there are four areas where you need to bear this in mind. We refer to the normal income tax rules for loss relief as ‘real tax’ to distinguish them from the rules for tax credits loss relief.

Carry back of losses

For real tax, you may want to carry back your losses so that you can get a tax repayment in respect of the previous tax year. However, you will need to remember that for tax credits, it is not possible to re-open claims for the previous year to take into account any losses you subsequently carry back from the current year. There is no carry-back of losses for tax credits. Losses that you have for real tax purposes may still be set off against your tax credits income. If you have any additional income to be taken into account for tax credit purposes, this will first be done by setting the loss against the income you have in the year of loss. If you are a member of a couple and have a joint claim with your spouse, civil partner or someone with whom you are living, you must set off your losses against your joint (household) income for the tax year of the loss. Any surplus can be carried forward and set against income of the same trade for a future tax year.

Carry forward of trading losses

For both real tax and tax credits, losses, which are not set off in any other way are carried forward and set against future profits of the same trade. However, the amount carried forward will often differ for real tax and for tax credits.

This is primarily for two reasons:

Where the person running the business is part of a couple, losses for tax credits must first be set off against other income of both members of the couple for the current tax year, while for real tax only the other income of the partner carrying on the business can be used (see below under joint claims); and members of the couple for the current tax year, while for real tax only the other income of the partner carrying on the business can be used (see below under joint claims); and the fact that for real tax, any surplus loss not set off against other income in the current tax year can be carried back against income of the previous year, while for tax credits – as we explained above – there is no carry back of trading losses.

Joint claims

As mentioned above it is important to bear in mind that where there is a joint claim for tax credits, the order of set off of trading losses is firstly against current year income of the couple and then by way of carry forward against future profits of the same trade. This is because the tax credit rules say that any trading loss in a year has to be subtracted from the total of the other income of the couple. Each couple is treated as one claiming unit for tax credits. The set off against the couple's combined household income in the case of a joint claim for tax credits may result in a lower figure of losses for carry forward than the equivalent figure for real tax. Remember that from a tax point of view – each individual is looked at completely separately whereas for tax credits it is the claiming unit, whether single or joint whose income and circumstances must be taken into account. If you have any doubts or concerns about the best way to use your losses you may need to get some professional advice. You can find more about how to report losses for tax credits on form TC825. There is also a useful albeit short section in the HMRC leaflet WTC2 on losses you might want to look at as well. You can find it on GOV.UK.

Universal credit

Universal credit uses monthly income and relief for losses is treated quite differently. If your monthly accounts show your business making a loss then you will be treated as having £Nil income in that month and may be subject to the minimum income floor (MIF). From April 2018, new rules were introduced which allow some carry forward of losses between assessment period. So previous losses can be carried forward, but the carry forward of the loss can only ever reduce the income in an assessment period down to the level of the MIF.