Basis Period Reform and Your First MTD Filing Year

Two reforms land close together for unincorporated businesses, and it helps to see them as connected rather than separate. Basis period reform changed how a sole trader or partner works out which profits fall into a given tax year. Making Tax Digital for Income Tax changes how those profits are reported. Because the reform introduced a five-year spreading of transition profits that is still running when the first MTD year begins, a business with a non-March year-end can be dealing with both at once.

The reporting mechanics of that first year, the quarterly updates and the Final Declaration set out across the MTD roadmap for owner-managed SMEs, sit on top of the profit-measurement change this spoke deals with and the way the transition figures continue to flow through the return.

From current year basis to tax year basis

Under the old current year basis, a sole trader was taxed on the profits of the twelve-month accounting period ending in the tax year. A business drawing accounts to 30 April 2023, for example, was taxed on those profits in the 2023/24 year even though most of the period fell in the previous calendar span. Basis period reform replaced that with a tax year basis, so profits are now matched to the tax year itself, running 6 April to the following 5 April, regardless of the accounting date.

Businesses that already draw their accounts to 31 March or 5 April are largely unaffected, because their accounting period and the tax year already line up. The businesses that felt the change are those with accounting dates elsewhere in the year, such as 30 April or 30 September, which now have to apportion profits across two sets of accounts to arrive at a tax-year figure.

The 2023/24 transition year

The changeover happened in the 2023/24 transition year. For a business with a non-March year-end, the 2023/24 basis period was extended to run from the end of the previous basis period all the way to 5 April 2024. That period splits into two parts: a standard part, being the usual twelve months, and a transition part, being the extra span needed to reach the end of the tax year.

The transition part generated additional taxable profit, because more than twelve months of trading was being brought into a single year. To stop that creating a one-off spike, the reform allowed any unused overlap relief carried from the early years of the business to be set against the transition profit first, and then spread the remaining transition profit across five years.

Five-year spreading

Where transition profit remains after overlap relief, it is spread equally over five tax years, from 2023/24 through to 2027/28. A fifth of the transition profit is added to taxable income in each of those years by default. A trader can elect to accelerate all or part of the remaining balance into an earlier year, which can make sense where bringing profit forward uses up allowances or a lower rate band that would otherwise be wasted.

The detail of the spreading and the transition calculation is set out in the legislation that introduced the reform, in the Finance Act 2022 basis period provisions, and explained in working terms by the Chartered Institute of Taxation and others in their coverage of the transitional rules.

Why it matters for the first MTD year

The first MTD for Income Tax year for the largest cohort of sole traders and landlords is 2026/27, and by design that year already runs on a tax-year basis of 6 April 2026 to 5 April 2027. The quarterly updates, kept in compatible software after any move off spreadsheets, capture the ordinary trading income and expenses for the year. The transition profit, however, is not ordinary trading income for that year; it is a slice of an earlier calculation being released under the spreading rules.

That distinction is finalised at the Final Declaration rather than shown in the quarterly updates. A trader partway through the five-year spread will see the fourth instalment of transition profit added at finalisation for 2026/27, on top of the tax-year trading result the updates have built up. In other words the quarterly rhythm handles the current year cleanly, while the tail of the reform is dealt with as a year-end adjustment.

Practical points for a non-March year-end

• Confirm whether any transition profit remains to be released in 2026/27 and 2027/28.
• Keep the overlap relief figure on record; it was applied once and cannot be claimed again.
• Remember the spread instalment is a Final Declaration adjustment, not a quarterly figure.
• Consider whether accelerating the remaining spread suits your rate band position.
• Weigh moving the accounting date to 31 March or 5 April to remove future apportionment.

Should you change your accounting date?

For many businesses with a non-March year-end, the tidiest response to the reform is to move the accounting date to 31 March or 5 April so that future years need no apportionment across two sets of accounts. It is not compulsory, and there can be commercial reasons to keep a seasonal or historic date, but aligning to the tax year removes a recurring source of complexity in every subsequent MTD year. This is a judgement worth taking alongside broader tax planning, since the right answer depends on the trade's seasonality and cash cycle as much as on the tax.

Basis period reform and MTD were introduced as separate projects but they meet in the first digital year. Getting the transition profit, overlap relief and accounting date settled now means the years that follow are a clean tax-year basis reported quarterly, which is the position the owner-managed MTD regime is built around.