Nobody goes into business to make a loss. However, there are situations where a business does indeed make a loss due to poor trading conditions, unforeseen circumstances, or just plain bad luck! Tax losses can generally be carried forward to be offset against income in future periods, so some good can still be salvaged from a poor year.
Let’s consider companies first. When companies make a loss, this is recorded at the time of filing the tax return for that year and carried forward into the following tax year. If the company then makes a profit, the loss is offset against that profit and thus reduces the taxable income for the year. If the loss being carried forward exceeds the profit, the remaining amount will carry forward and be used to offset profits in future years until it is all used up.
In the past there have been rules around carrying forward losses where there are changes in the shareholding of a company, which restricted changes to a maximum of 49% of the total shares before losses would be cancelled by the Inland Revenue Department. This has recently been relaxed, however, and now there is no restriction on shareholder changes provided the company passes a Business Continuity Test. The main requirement of this test is around if there has been a “major change in the nature of the business activities” carried out by the company during the business continuity period. If the business does not pass the Business Continuity Test, then it falls back on the 49% shareholder continuity requirement for losses to carry forward.
If a company is part of a group of companies (i.e., has at least 66% common ownership with other Companies), then there is the ability to share losses within the Group. This can occur in two ways: either by an irrevocable election in the loss company’s tax return that the loss is available for the profit company, or by way of a subvention payment between the companies. There are several technicalities in both options, so they are not suitable or available in all occasions, but your Leech & Partners team will discuss with you if they are appropriate.
As for individuals, whether you are in business as a sole trader or in a Partnership, as with a company the loss will be recorded in your tax return and carried forward into future years until it has been utilised. It’s important to note that the current rules do not allow loss offsetting in relation to losses from residential rental properties. From 2019 the Ring Fencing rules mean that rental property losses cannot be offset against other income (such as salary and wages) but instead must be carried forward and can only be offset against future rental property profits.
So, while incurring a tax loss is not desirable, offsetting against future income does lessen the pain.
Please note that this is not comprehensive advice regarding tax losses. For further detail, please contact your Leech & Partners manager.
