Everything You Need to Know About Trading Allowance

Trading allowance, sometimes also known as the ‘trading income allowance’, was introduced in the 2017/18 tax year for people with trading or miscellaneous income. In this article we look at how it is applied and what criteria you need to fulfill to be eligible for it.

What is the Trading Allowance?

The trading allowance was introduced for the 2017/18 tax year onwards to exclude trading and/or miscellaneous income of up to £1,000 per tax year from income tax. The allowance might include income generated from something known as ‘sharing economy’. For example, car sharing, or maybe income arising out of some hobby activities with prospects of it developing into a commercial business.

To be entitled for trading allowance, you need to fulfill the below criteria:

• You use the cash basis of accounting, or
• You use the accruals basis of accounting but are eligible to use the cash basis.

What is the Cash Basis?

The cash basis was introduced in April of 2013 to make accounting and completing a Self-Assessment tax return simple and hassle free for unincorporated businesses (sole traders and partnerships). Under the cash basis, businesses can record their income and expenses only when they receive payment or make payment for goods or services they receive. The cash basis eliminates the need for calculating debtors and creditors at the year-end. The cash basis also frees you from the hassles of performing a stock-take or estimate accruals and prepayments.

What is the Accruals Basis?

The accruals basis, which is also called the GAAP ‘Generally Accepted Accounting Principles’, takes into account basic accountancy principles to ensure that only receipts and expenses applicable to that accountancy year are recorded in that year. Cash basis was introduced in 2013/14 which means that businesses had no other alternative and used only accruals basis to record stock, debtors and creditors. In this article, for the sake of clarity, we shall refer to the income that covers both trading and miscellaneous income as trading income.

If your total trading income in the basis period for the tax year is less than £1,000, you are not liable to pay any tax. You are therefore absolved from the responsibility of preparing accounts or include the income on your Self-Assessment tax return. Also, you are not required to fill Self-Assessment form, if this happens to be your only source of taxable income. However, despite it not being mandatory, you may still chose register for the following reasons:

• You may wish to pay voluntary class 2 NIC.
• You would like to claim tax-free childcare.
• You want a record of your self-employment for maternity allowance.

In case your total trading income in the basis period for the tax year exceeds £1,000, you have the option of deducting the trading allowance from the trading income instead of deducting your actual business expenses for the period. Under such circumstances, the taxable profit is the sum total of: Total income-Trading Allowance. For example, if Jim’s total income for the year from his local repair shop is £1,600 in 2018/19, and he decides to claim the trading allowance, his taxable profit under this situation will be £600. Claiming trading allowance if you are eligible for it frees you from the responsibility of preparing any business accounts for tax purposes. However, it is always a good practice to keep a close tab on your income and expenses in order to be better aware of your business performance; it also helps you in determining whether or not you wish to claim the trading allowance.

Also Read: How to Apply for Self-Assessment Online

If you have a taxable profit after claiming the trading allowance, like the one in Jim’s case above where had a taxable profit of £600, you have to report this to HM Revenue & Customs' (HMRC) in order to pay the correct amount of tax. The way to declare your tax is by completing a tax return form under the Self-Assessment system, which makes it mandatory for you to declare your tax if you eligible for tax return.

Once your registration is over with the HMRC regarding your self-employed status, HMRC will send you a notice at the end of the tax year informing about the tax return you have to file for the tax year that has just finished.

You need to register for Self-Assessment if you have decided to work for yourself by becoming self-employed for tax and National Insurance contributions (NIC) purposes. HMRC has to be assured that you are self-employed and not an employee.

Please note that even if you do not have to report this income to HMRC you may still wish to do so to take advantage of some benefits like universal credit.

What is Universal Credit (UC)?

Universal credit (UC) is a new benefit administered by the Department of Work and Pensions (DWP). UC, which is slowly supplanting several benefits including tax credits, combines benefits for in and out of work support, housing, and childcare costs; it makes provision for additional benefits for people with disabilities or caring responsibilities.

Also Read: Universal Credit Number Pension Credit

What is UC Replacing?

UC is gradually replacing:

• Housing benefit
• Child tax creditm
• Working tax credit
• Income support
• Income-based jobseeker’s allowance
• Income-related employment and support allowance

When did it Start?

Universal credit was introduced in April 2013 with limited scope, and only people with straightforward circumstances living in selected postcodes were eligible for it. The Department of Work and Pensions from November 2014 has been operating two computer systems to roll-out UC. The first one called ‘live’ service is more basic in nature and is designed to handle more straightforward cases. The other system is known as the ‘full’ service with the power to process all UC claims once it becomes fully operational.

What happens in an Event of having more than One Source of Trading or Miscellaneous Income?

If you have more than one type of trading or miscellaneous income, you are still eligible to claim one trading allowance; however you can decide how to allocate the allowance between your sources of trading or miscellaneous income.

About the author

Sumit Agarwal
Sumit Agarwal (ACMA ACA India), the Managing partner of dns accountants is a highly respected accountant with expertise in helping owner-managed businesses.