Farmers and market gardeners may obtain relief by averaging the profits of consecutive years
Averaging can be claimed where the difference between the profits for the two years is 30% or between 25% and 30% (marginal relief). It can’t be claimed where profit differences are below 25%.
The rules relating to the averaging profits of farmers and creative artists are found in the Income Tax (Trading and Other Income) Act 2005 (ITTOIA 2005), Part 2 Chapter 16 - s221 to s225. They are claimed in the tax return for:
- sole traders in box 72, Self-employment
- partners in box 11, Partnership pages
Averaging from 1 April 2016
Finance Act 2016 extended the ability for profit averaging to five years and removes the marginal relief. ITTOIA 2005 Section 222A Circumstances in which claim for five-year averaging may be made states:
An averaging claim may be made under this section in relation to five consecutive tax years in which a taxpayer is or has been carrying on the qualifying trade, profession or vocation if the volatility condition in subsection (2) is met.
The volatility condition is that:
a) one of the following is less than 75% of the other:
i. the average of the relevant profits of the first four tax years to which the claim relates
ii. the relevant profits of the last of the tax years to which the claim relates; or
b) the relevant profits of one or more (but not all) of the five tax years to which the claim relates are nil.
It is also important to note that:
- Any of the first four tax years to which an averaging claim under this section relates may be a tax year in relation to which an averaging claim under this section or section 222 has already been made.
- An averaging claim (‘the subsequent claim’) may not be made under this section if an averaging claim in respect of the trade, profession or vocation has already been made under this section or section 222 in relation to a tax year which is later than the last of the tax years to which the subsequent claim relates.
- An averaging claim may not be made under this section in relation to the tax year in which the taxpayer starts, or permanently ceases, to carry on the trade, profession or vocation. For example, a claim could not be made by a partner for the year they join the partnership.
- An averaging claim under this section must be made on or before the first anniversary of the normal self-assessment filing date for the last of the tax years to which the claim relates.
- Where the claimant makes a valid averaging claim, the amount of the adjusted profits of each of the tax years to which the claim relates is the average of the relevant profits of those years (ITTOIA 2005, s223).
The following example explains how the relief works:
Example A farmer has the following profits, and two-year averaging claims have been made for 2019/20 and 2020/21.
The five-year average makes good use of all the basic rate bands for all the years and brings all the years under the threshold for the Higher Income Child Benefit Charge. This shows how effective this is at spreading exceptional profits. The workings are as follows. 2016/17 averaging claim
2017/18 averaging claim is not available, but it may be possible to trigger a claim with careful disclaiming of capital allowances. 2019/20 averaging claim
This becomes the taxable profit for the years 2018/19 and 2019/2 2020/21 two-year averaging claim
This replaces the averaged profit for 2019/20 and becomes the taxable profit for 2020/21. 2020/21 five-year averaging claim A five-year claim is available because the average of the four preceding years, ignoring the 2020/21 averaging claim, is £31,250, which is less than 75% of £125,000. If this claim is made in place of the two year claim for 2020/21, the averaged profits are as follows:
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In relation to the period prior to 2016/17, you can see more on the return rules including worked examples and a look at the rules relating to the averaging profits of farmers on our technical advisory webpages.
