What if I make a loss?
By its nature, self-employment means that you run the risk of making a loss. This area gives you information on how you may use that loss to best effect.
If you are using the accruals basis then there are four basic ways to obtain tax relief for a trading loss. In all cases the business must be operating with a view to making profits: losses in a hobby will not qualify for loss relief. There is also a special loss relief for a loss in the final 12 months of trading.
If you are using the cash basis then you can only use your trading losses by carrying them forward to utilise in future years against any trading profits or if you cease trading and make losses in the final 12 months then there is a special loss relief you can use.
If you are self-employed or a partner in a business, you will make a loss in your business, whenever your expenses and capital allowances are more than your 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.
Tom's accounting year ends on 31 March. In the year to 31 March 2018 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 2017/18 and so this means that Tom has a loss of £7,000 (£10,000 - £15,000 - £2,000) for the current tax year – 2017/18.
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.
Just to remind you – when we refer to a tax year we are talking about the year ended on 5 April – so 2017/18 is the tax year ended 5 April 2018.
There are a number of ways in which a loss can be used to reduce taxable income in a tax year and so reduce the associated tax bill for the tax year.
- You can use the loss in the current tax year and set it against all of your other income including income from savings. This reduces the tax that would otherwise be payable on your other income.
- You can carry the loss back to the previous tax year and set it against all of your income including income from savings. This reduces the tax due on this income, and a repayment of tax is usually generated.
- For a new business, if the loss occurs in any of the first four years of trading you can set it against your total income of the three tax years immediately before the loss year, starting with the income of the earliest year first.
- If you cannot use the loss in any other way, you can carry it forward and set it against profits of the same trade in a future year.
- If your business finishes and you make a loss in your last year, you can set this against your trading profits of the previous three years, latest year first.
We explain each of these in more detail below, but the key features of each loss relief claim, including which accounting basis you need to use, are summarised in the table at the end of this section.
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 the greater of £50,000 and 25 per cent of their annual income. If you spend less than 10 hours per week working for your business then your loss relief may be restricted further to £25,000.
Set off against other income or capital gains of the same year
I made a loss in my self-employment in 2017/187, but I was also employed and paid taxes through Pay As You Earn (PAYE). Can I get some of this tax back?
You can claim to set the loss from your self-employment against your other income for the same tax year. You usually make this claim through your Self Assessment tax return, so you will need to complete your tax return before you can make the claim. You will need to complete the self-employment (short) tax return pages, or the self-employment (full) pages.
A stand-alone loss claim can be made in some circumstances by writing a letter to 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 a bit careful 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 be able to use certain reliefs such as your personal allowance.
Kurt made a loss on his self-employment of £8,000 for the tax year 2017/18. During that year he was also employed and earned £30,000. He may claim to have the loss set against that income, leading to a refund of some of the tax he paid via PAYE.
Monika made a loss on her self-employment of £5,000 for the tax year 2017/18 During that year she also had a part-time employment and earned £11,500, but had no other income. She may claim to have the loss set against that income, but her personal allowance for 2017/18 is £11,500, so reducing her income below that level gives no further relief to her. Claiming the loss relief in this way will waste her personal allowance. She may choose to claim an alternative relief.
I made a loss in my self-employment in 2017/18, but also had a capital gain that year. Can I set the loss against my capital gain?
Yes, you can, but you can only do that after you have set the loss against your income (see above). Any remaining loss may be set against your capital gain, but you cannot restrict the loss you use this way so you may waste your annual capital gains tax exemption.
Set off against other income or capital gains of the previous year
I made a loss in my self-employment in 2017/18. I had employment income in both 2017/18 and 2016/17. Can I set off the loss against one or both of these?
Yes, you can. You can choose whether to claim loss relief in 2016/17 or 2017/18 or both. If you decide to claim loss relief in both years, you need to decide which claim is to be made first. The fact that you are claiming the relief in two years means that you are wasting personal allowances in at least one of those years. You may also extend the loss to claim against capital gains, but only after it has first been set against income of the relevant year.
Use a loss in the early years (first four) of a trade
A loss incurred in the first four tax years of a trade may be carried back and set against the general income of the trader for the three previous tax years, using the earliest years first.
I have had income and losses as follows. Can I get tax relief?
You can claim tax relief for the loss of £20,000 incurred in 2017/18 as a loss in the early years of trade. The loss is carried back three tax years to 2014/15 and set against your total income for that year of £30,000. The loss claim reduces the taxable income in 2014/15 to £10,000 from £30,000, and so the tax due for that year is recalculated. This means tax will now be overpaid for that year and this will be refunded.
Carry forward against future profits of the same trade
I made a loss of £10,000 last year that has not yet been given any tax relief. I estimate I will make profits this year. Can I use the loss?
Yes you can. The whole loss is set against your taxable profits for this year, with any balance remaining being carried forward to the following year.
Loss in the final 12 months of trading
These rules are quite complicated, so we have deliberately chosen a business with a 31 March year end as this makes things much easier. You can find out more information in HMRC's Helpsheet HS227 on losses.
I have just stopped trading because I was making losses. Can I get any tax relief?
My results were as follows:
|Year to 31 March 2015||£5,000|
|Year to March 2016||£25,000|
|Year to March 2017||£10,000|
|Period to 31 December 2017||(£15,000)|
The final 12 months of trading is the period from 1 January 2017 to 31 December 2017. The loss for that 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.
The terminal loss is £15,000. This loss has arisen for 2017/18 and may be carried back for up to three years, but using the latest year first.
The loss is therefore used as follows:
£10,000 (used against all trading profits)
Yes and they are strictly applied.
Loss used in current or previous tax year
You need to claim within one year from 31 January after the end of the loss making tax year.
James made a loss for the tax year 2017/18. He will need to make a claim by 31 January 2020.
Loss carried forward to later years
You need to claim within four years from the end of the loss making tax year.
Sally made a loss for the tax year 2017/18. She will need to make a claim by 5 April 2022.
New business losses
You need to claim within one year from 31 January after the end of the loss making tax year.
Carol made a loss for the tax year 2017/18. She will need to make a claim by 31 January 2020.
You need to claim within four years from the end of the tax year in which the business finishes.
Pete made a loss and stopped trading during the tax year 2017/18. He will need to make a claim by 5 April 2022.
The table below shows all the different loss claims and the key points relating to each for ease of reference.
|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.||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.|
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.||If you have more losses than your income in the current and previous tax year then you can decide to claim loss relief in both years, however you need to decide which claim is to be made first. The fact that you are claiming the relief in two years 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.||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.|
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.|
|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.||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.||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||Terminal loss relief claims can be very complex as you may need to take into account overlap relief .|
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 carried back for real tax purposes may still be set off against your tax credits income. This will first be done by setting against your other income of the year of loss. If you are making a joint claim with your spouse, civil partner or someone with whom you are living, you must set off your losses against your joint 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 partners in 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 is first carried back against income of the previous year, while for tax credits – as we explained above – there is no carry back of trading losses.
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 other 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 the GOV.UK website.
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.
From April 2018, new rules are introduced which allow some carry-forward of losses between assessment periods. 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 Minimum Income Floor.
See our website for advisers, RevenueBenefits, for more information.