It is now generally accepted that volatility is a feature of every farm enterprise, resulting in variations in farm profits from one year to another, with cash-flow implications. Such variations in farm profits can have significant consequences in terms of the payment of tax, writes Seamus McCaffrey, accountant, Omagh.
Revenue and Customs recognise the cash-flow implications of fluctuating profits by the existence of “averaging” legislation. In order to avail of an averaging claim the trade must be either farming or market-gardening. Averaging is not available where the trade is agricultural contracting, haulage or a caravan site. Only a person liable to UK income tax can make an averaging claim; this means sole traders, partners, executors and personal representatives of an estate are eligible. A limited company or a partner in a corporate partnership cannot make an averaging claim.
With effect from and including the 2016-17 tax year farmers now have the choice as to whether profits are averaged over five years, two years or not at all, instead of over two years or none under the old rules. For individuals who have been in business for fewer than five years, only the option of two-year averaging is available until they have a five year trading history, excluding the tax year of commencement. For individuals who have been in farming for more than five years, the new rules mean that a farmer, who elects for five-year averaging, may average the profit, after Capital Allowances for the years 2012-13 to 2016-17.
In order to be eligible for five –year averaging, the individual farmer must meet a volatility test which can be met in one of two ways. To meet the first one, it is necessary to take the average of the previous four years profit and compare with the latest year. As long as one of the new four year averaged profits and the profits of the fifth year is 75 per cent or less than the other, averaging is allowed. The second way to meet the volatility test is if the profit of any of the five years is a loss.
An averaging claim must be submitted to Revenue and Customs no later than 22 month after the end of the second year of assessment. Where the farm business is a partnership, not all partners need to elect; only where a claim is beneficial.
A trading loss is treated as NIL profit for averaging purposes. An averaging claim cannot be made in the first year of assessment nor in the year where the farmer permanently ceases.
The change in farmers averaging rules is positive offering additional flexibility to farmers and in many cases, will give rise to valuable tax savings or potentially tax repayments.
For further information, telephone (028) 8224 1515