How to manage tax when your farm income has dropped

Farming incomes are particularly depressed this year – but that doesn’t mean tax bills will necessarily drop accordingly, writes Andrew Vickery, head of rural services at accountant Old Mill.

Incomes across a range of farming sectors are all under intense pressure and unfortunately, a common response when reviewing clients’ accounts is: “At least we won’t have to worry about tax next year”.

Sadly, this isn’t the case.

See also: Lower farm incomes could mean higher tax bills

This is because in times of tighter incomes farmers tend to invest less, resulting in a sharp drop in the use of capital allowances, which can be used to reduce tax bills.

This means that, although incomes have suffered, taxable profits for many clients actually increased, year-on-year.

How to manage your tax bill

Tax remains a cost to a business like any other, so when cashflow is tight planning to save tax is more important than ever.

The areas that businesses should be considering can be broken down into three parts:

Last financial year (2014-15)

Many businesses will have to pay tax on profits made last year, and the timing of those payments is important.

In most cases the tax will be payable in January 2016, which could be a particularly bad point for cashflow, especially if BPS payments are delayed.

Deferring tax can be as good as saving it. If profits are likely to fall this year, consider reducing payments on account or eliminating them altogether until the next tax year, when hopefully cashflow will be better.

For example, if you had some work done in your last financial year, but were not billed by the company until the current financial year, consider including the cost of this work in the previous tax year. This means you will be able to reduce tax bills payable for last year.

It is also worth checking the allocation of capital expenditure, particularly where building works are involved. Repairs and expenditure on plant, machinery and fixtures and fittings may well qualify for 100% tax relief compared with none on new building work, as it is ineligible.

However key structural work such as slurry stores, silage clamps and cubicle installations do qualify for full tax relief, so ensure your accountant understands how to separate and allocate expenditure properly to make sure these tax treatments are used where available.  

One note of caution when finalising last year’s accounts is to consider how they will look to your bank manager, especially if you need extra working capital over the next 12 months.

If the accounts profits are lower, perhaps as a result of exceptional items like extra repairs or stock revaluations, consider including a short explanation to help the bank understand. Also check whether any bank covenants (conditions) within loan agreements, like minimum profitability levels, risk being breached.

Current year planning (2015-16)

It is vital to carry out an honest and detailed appraisal of what profits might look like in 2015-16, so you can understand your potential tax liabilities and when they are payable.

When incomes are tight it is understandable to stop spending, particularly on capital items.

But consider whether this is really the right decision and whether you are losing out on potential efficiencies.

Increased volatility is something most farmers need to become accustomed to so it’s important to take a medium term approach to investment decisions.

Work with a specialist farm accountant.

If you don’t normally meet with your accountant to discuss the previous year’s figures or towards the year end to consider planning opportunities this should be the year to start.

Trying to minimise tax without a regular dialogue is far more difficult, and any farm accountant should be happy to commit extra time this year to get the best for their clients without necessarily charging additional costs. 

Long-term planning

Consider the overall rate of tax you are paying.

Could you benefit from changing the business structure to perhaps bring in other partners or use a limited company? If the average rate of income tax is above 20% there may well be improvements to be made.

Planning capital investment is also vital, both in terms of business efficiency and tax reduction.

The Chancellor’s July 2015 Budget confirmed that from 1 January 2016 the annual investment allowance will settle at £200,000/year for the next few years. This gives some badly needed clarity and therefore better scope for businesses to plan their capital expenditure over the coming years. 

It is very important to understand the interaction of the allowance with your accounting year end so that the correct shares of different rates of allowances are made.

The July 2015 Budget also confirmed the introduction of five-year farmers’ averaging.

This may well benefit sole traders and partnerships but the exact details are yet to be finalised, and it should not be assumed that it will automatically save tax.

Many businesses are not able to benefit from farmers’ averaging, perhaps due to off-farm income or because profits per proprietor are too high.

One last word of advice…

Above all, understand your business’s tax position and make sure you and your accountant are doing all you can to minimise the impact of tax during this challenging period.