Sadly, not all businesses will survive the Covid-19 pandemic, and many may take, or be forced to take, the decision to close where losses make the business untenable.
The tax legislation provides various relief for losses including a special relief for losses made in the last 12 months of trading, known as terminal loss relief. A form of the relief is available for both income tax and corporation tax.
Under the income tax rules, a terminal loss can be set against profits of the same trade for the year of cessation and against profits of the same trade for the three tax years prior to that in which the business was discontinued, with relief being given against profits of a later year before those of an earlier year.
The terminal loss comprises:
- the loss made in the tax year in which the trade ceases; and
- the loss make in that part of the previous tax year beginning 12 months before the date that the trade ceased.
If either component is a profit, it is treated as nil in computing the terminal loss.
Where there is unused overlap relief, this will increase the terminal loss.
Tina runs a café as a sole trader. She prepares accounts to 31 March each year. Her business failed to survive the Covid-19 pandemic and she ceases trading on 30 September 2020, making a loss of £20,000 for the period from 1 April 2020 to 30 September 2020.
She made a profit of £18,000 in 2019/20, a profit of £20,000 in 2018/19 and a profit of £15,000 in 2017/18.
She has unused overlap profits of £2,000.
Her terminal loss for the last 12 months of trading is £20,000:
- – 1/4/2020 to 30/9/2020: £20,000
- – 1/10/2019 to 31/3/2020: £nil (profit of £4,000 for the period).
The loss is increased by the overlap profits of £2,000 to give a terminal loss of £22,000.
She has no other income in 2020/21.
The loss is relieved as follows:
- – £18,000 against the profits of 2019/20; and
- – the remaining £4,000 against the profits of 2018/19 of £20,000, reducing the taxable profits to £16,000.
It is not possible to tailor the claim to preserve personal allowances.
A similar relief is available for corporation tax, allowing companies to claim terminal loss relief when they stop trading.
Any trading losses occurring in the final 12 months of trading can be carried back and set against the profits made in the previous three years. The loss must be set against the profits of the most recent year first.
Partner note: ITA 2007, s. 89; CTA 2020, s. 39.