Making Tax Digital for Income Tax – a disaster for small business?

January 2023 UPDATE: The can has been kicked down the road… again!

I’m losing count of how many times this can has been kicked. The good news is, since this article was written the Government have changed their minds again. Here’s my original article for posterity. But you have a couple more years before panic really needs to set in.

Making Tax Digital for Income Tax Self Assessment – In a nutshell?

Bit of a mouthful isn’t it? Making Tax Digital for Income Tax Self Assessment is also known as MTD ITSA and it’s coming to a tax return near you! In the not too distant future:

• It will be mandatory to use special software to manage your self employed taxes
• The length of time to submit your returns to HMRC will be reduced from 10 months to 1 month
• You’ll need to do this 5 times per year
• It all starts from April 2024 (now April 2026)

So what we’re basically saying is that gone are the days of handing over a shoebox full of receipts to your accountant at the end of the tax year. You’ll be expected to keep everything up to date at all times, it must all be digital and HMRC must have (more or less) direct access to it.

Has life ever been harder for the UK self employed?

In my lifetime of running small businesses I have never known such a difficult period of time for self employed folk. In just 5 years we’d had to adjust for Brexit and recover from business lockdowns throughout the coronavirus pandemic. This on its own was the final straw for many, many businesses. We’re now seeing hyperinflation, rapidly rising interest rates, the death of our monarch, global unrest and we’re probably in recession (unless we take the US approach of re-defining what a recession is). So these changes cannot happen at a worse time.

What is Making Tax Digital for Income Tax (MTD ITSA)?

MTD ITSA is Making Tax Digital for Income Tax Self Assessment and it follows the ‘successful’ rollout of MTD for VAT. The crucial difference is that VAT returns always had to be submitted quarterly. Self Assessment has always been a yearly process in the UK.

This is something that’s been rumbling on in the background for many years now. It was pushed back for Brexit and then by Covid but it’s firmly back on the agenda and at the moment they’re hoping to have everything in place by April 2024 (now April 2026). So in other words next year could be your LAST year of doing your tax returns yearly (no longer the case).

How will Making Tax Digital for Income Tax change things?

At the moment you essentially have 10 months to complete your self assessment tax return and pay any tax due. So in other words, the tax year ends on the 5th April and you’ve got until the following 31st January to file your self assessment tax return and pay any tax due.

Ironically it used to be 7 months but many years ago HMRC introduced a 3 month incentive to get people to switch away from paper returns.

Now considering you’ve got just over a year to completely overhaul how you do your taxes and learn how to use accounting software from scratch, information from HMRC about exactly how this will work is sketchy to say the least.

But it looks like it will work in a similar way to MTD for VAT and that means filing quarterly returns within 1 month of the quarter end. In fact HMRC have confirmed exactly this, here are the filing dates from HMRC:

Is the UK tax year going to change from 5th April?

So obviously at the moment the UK tax year for personal taxes runs from 6th April to the following 5th April. I’ve explained why here but in a nutshell, it’s insane. Most developed countries run their tax year from 1st January. We run it from 6th April.

This doesn’t cause a huge problem for yearly tax returns but it does present some interesting issues if we now need to start doing stuff quarterly. It means our tax quarters don’t align with calendar months (unlike VAT) and the deadline dates will all fall on the 5th of the month, rather than traditional end-of-month deadlines.

For goodness sake just change the UK tax year to start on 1st January!

The scary thing here, as we blindly stumble down a path of making something increasingly more complicated in the name of simplification, is that we may end up changing the tax year to start on the 1st April. This would be insanity but the HMRC website suggests it might happen in the not too distant future:

Why is changing the tax year to 1st April is insane?

Changing the tax year is a HUGE upheaval. I wholeheartedly agree it should be changed from 6th April, but this is a change that should only happen ONCE. It’s a massive pain in the backside and will take years of planning. So if we’re going to do it lets do it properly and make it 1st Jan NOT 1st April. Most of the developed world uses 1st Jan as the start of their fiscal year. Let’s do something properly for once.

I digress. We’ll do it arse about tit as per usual and VAT registered small businesses will have to cope with doing 9 returns per year, all with different obscure deadlines.

Ready for 9 tax returns per year?

WHAT?? No joke. If you’re a VAT registered small business you’ll submit quarterly VAT returns. This is now done digitally through MTD for VAT. These returns almost always align with the calendar month. So when MTD ITSA goes live you’ll be doing 9 returns per year. 4 for VAT, 4 for MTD ITSA and a final full-year return for ITSA. Sounds like fun, doesn’t it?

Making Tax Digital for Income Tax? Is this for real?!?

Anyway, I know this will come as news to a lot of you so just to prove I’m not making this up here are a few web pages for you to digest:

• Using Making Tax Digital for Income Tax (Sept 2021)
• Policy Paper about MTD (Feb 2022)
• Policy Paper about MTD costs & ‘benefits’ (Sept 2021)
• Delay of MTD for ITSA (Dec 2022)

Will this impact my business?

On the plus side, it looks like you’re off the hook FOR NOW if:

• You make less than £10,000 per year (now £50,000… then £30,000)
• Partnerships will be hit in 2025 (no longer appears to be the case!)

And don’t think you can escape this by setting up a Limited Company. They’re hoping to bring in MTD for Corporation Tax by April 2026 (no longer appears to be the case but very little information to confirm either way).

What software do I need to buy for MTD?

At the moment the choice of software is almost non-existent. There are a handful of accounting packages that can handle MTD ITSA and most seem to be under development. HMRC have published a list here but when I followed the links for ‘software available now’ I was directed to early adopter programmes, such as this from untied:

So good luck making a start on getting up to speed.

Will there be free software?

YES – and DEMAND IT! This took some digging but HMRC have committed to the availability of FREE software for businesses mandated to use MTD ITSA. Note how MTD ITSA is mandatory. Here’s what they currently say on this developer website:

As per the above, HMRC have said that free software should be available for small businesses. They then go on to say that a ‘small business’ is:

• unincorporated (for example self-employed persons or landlords)
• has turnover within the scope of Income Tax below £85,000
• has no employees
• uses cash basis accounting

This is interesting and somewhat random. For example it’s the first time I’ve seen a stipulation of using cash basis accounting. Plenty small businesses making less than £85,000 per year use accruals based accounting, or at least their accountants do. So are those businesses not entitled to free software? Interesting.

It’s also very interesting to read HMRC’s somewhat onerous requirements for developers who may dare to make some free software. I can’t imagine why most developers would bother?

But surely going digital is a positive thing?

Look, I’m not a luddite. Going digital has some huge advantages for some businesses. But it’s not for everyone and for the vast majority of micro-entities such as plumbers, joiners, plasterers, gardeners and the like… make no mistake. This is going to be a total nightmare.

Reality check – what will be involved with MTD ITSA?

Obviously I’m guessing a bit here since I’ve never used any MTD ITSA software and we have no idea what the final rules will look like with regards to completing quarterly returns.

Best case scenario

If your business is relatively simple and you do your accounts using spreadsheets you should be able to use bridging software to connect your spreadsheet to HMRC. This software should be very cheap or free. DON’T PAY A SUBSCRIPTION FOR BRIDGING SOFTWARE!

At the moment we use 100PcVatFreeBridge for MTD VAT returns and it’s awesome. Hopefully the guys at Comsci will come up with something equally as awesome for MTD ITSA but obviously they’re under no obligation to do so. Why HMRC haven’t, at the very least, provided free bridging software as part of this whole misguided project, is beyond me.

You’ll need to keep your spreadsheet up to date and submit a return every quarter. Presumably the return will simply provide HMRC with a total of your income and expenses. From this it will automatically calculate your quarterly profit. What it does with this figure is anyone’s guess.

You’ll then need to submit your final yearly return based on fully reconciled accounts. Presumably this will be exactly the same process as existing online tax returns that we were incentivised to start using several years ago.

Worst case scenario

If you’re not technically minded and currently give your accountant a shoebox full of receipts at the end of each tax year, I’ve got bad news for you. You’re either going to have to get up to speed very quickly or get used to paying your accountant 5 times a year. Once for each quarterly return and then again for a final yearly return. If you’re also VAT registered this may mean 9 yearly calls to your accountant.

At the very least you’ll need a digital record of every piece of income and every expense. It will need to be updated within a month of the end of each quarter (see above for potential dates). You’ll probably not have time to do quarterly reconciliation so these figures will contain mistakes. This will all come out in the wash in the 5th return of the year which should (hopefully) be based on reconciled accounts.

At this stage we don’t know:

• When tax payments will become due
• What happens to additional expenses such as:
  • Using your home as an office
  • Claiming mileage
  • Depreciation of assets
  • Stock

Simple? No, it’s not.

Who’s going to gain from Making Tax Digital for Income Tax?

One of the most disturbing things I’ve found when trying to find more information about Making Tax Digital for Income Tax is that there’s a lot of people trying to put a positive spin on this and that’s a little bit naughty in my view.

Let’s be 100% clear, this change is designed to increase tax revenues and lower audit costs for the government. On the more sinister side it’s almost certainly paving the way for CDBC and if you don’t know what that is I suggest you research the topic.

For now, MTD ITSA will benefit accountancy firms, who now have to help 5 times a year instead of once. And it will benefit the companies who make the software you are mandated to use.

Small business owners, who have probably had the hardest 5 years in the history of UK self employment are, on the whole, not going to benefit from this in any way. What do you think? Is this just another kick in the teeth for small businesses?

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Last Updated on 16 November 2022 by Andy Mac