Eligible farming businesses should consider averaging

3 May 2019

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Following the recent news that some farmers have been waiting for up to two years to receive grant payments, Saffery Champness is reminding eligible farming businesses that farm profit averaging rules can be used to smooth out fluctuating profit levels and consequently allow smoothing of tax payments to HM Revenue & Customs.

Since April 2016, farmers have had the option to average their profits for tax purposes over any two or any five consecutive years as an alternative to simply paying the tax due on taxable profits arising in those particular years.

Averaging is available were the farmer passes the ‘volatility test’:

  • For five-year averaging the average of the previous four years’ profits and the fifth year’s profits must not be within 75% of one another;
  • For two-year averaging the current year and prior year’s profits must not be within 75% of one another; or
  • The result of any one of the five or two years under consideration is nil or a loss. Where a loss exists, the result is treated as nil for averaging and losses are available for normal loss relief.

So-called ‘marginal averaging’ is no longer permitted.

Martyn Dobinson, a partner and member of Saffery Champness’ Land & Rural Group, comments:

“If the volatility conditions are met, the farmer can average his profits over the relevant number of years and treat the average figure as his taxable profit in each of those years, smoothing his or her tax cash outflow, and in some cases even generating a refund.

“The general decline in farm business incomes published in DEFRA’s recent forecasts are certainly an indication that many farming businesses, across most farming sectors, could meet the volatility conditions.

“Partners in a farming partnership can claim averaging of their share of the partnership profits independently of one another, depending on individual circumstances.

“Averaging claims must be made within 12 months of the normal self-assessment filing date for the latest year to which the claim relates.”

There are however exclusions to the system.

  • Averaging extends only to farming profits (after capital allowances) and not to other income streams such as leisure, property rental or renewable energy production.
  • Averaging rules are only applicable for income tax and can therefore only be used by unincorporated farming businesses.
  • New entrants may be restricted since a full two or five-year trading history is required. Averaging is not allowed where trade is ceasing.
  • Averaging is not permitted for contract farming, or where a cash basis of accounting is used.