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Authors and artists who have fluctuating profits may pay a large amount of tax 1 year and little or no tax another year. To help reduce your tax bill, you may be able to average your profits for 2 successive years.
You can use averaging if:
- you’re self-employed or in a partnership, and the business started before 6 April 2014 and didn’t end in the 2015 to 2016 tax year
- your profits are wholly or mainly from literary, dramatic, musical or artistic works or from designs
- you or your business partner (if you’re in a partnership) created the works personally.
Literary works includes work protected by copyright. Artistic works includes paintings and sculptures but does not include works of craft, for example, furniture making.
You can’t use averaging if you use cash basis to work out your profits.
Averaging won’t help if you pay tax at the same rate for 2 successive years. But, it may help, for example, if you:
- pay tax at the basic rate 1 year and higher rate the next
- have to pay tax 1 year but your income falls so you don’t pay it the next
Who can claim averaging
You can claim averaging if your profits come from disposing of works or from royalties you get for allowing people to reproduce your works. So, for example, you can claim if you’re:
- an author whose income comes from the sale of your written work - even if a small part of your income comes from personal appearances
- a computer software writer whose income comes from royalties for reproducing the code you write, which is protected by copyright
Who can’t claim averaging
You can’t claim averaging if your profits come from the services you provide. So, for example, you can’t claim if you’re:
- an architect whose income comes mainly from your services – even if some of your income comes from selling material protected by copyright
- a computer programmer whose income comes from the service of writing scripts or programs, not the actual works
How to work out averaging
Check that your profit for the poorer year, minus any adjusted amounts, is less than 75% of the figure for your better year. If it is, you can use averaging.
If you claimed averaging last tax year, then use the amount from the averaging adjustment box on your 2014 to 2015 tax return.
Then, check if the difference between your profits for the 2 years is more than 30% of your profit for the better year. If it is, work out the average by adding together the profits for the 2 years, and divide the total by 2.
To find the averaging adjustment, work out the difference between your profit for the year and the average profit. If your profits for 2015 to 2016 are the higher profits, you deduct the averaging adjustment. If they are the lower profits, then you add the adjustment. The examples below show you how to do this.
Terry’s profits are:
|2015 to 2016||£10,000|
|2014 to 2015||£40,000|
|Total for the 2 years||£50,000|
Terry claims averaging so his total tax for the 2 years is adjusted to what it would have been if his profits had been £50,000 ÷ 2 = £25,000 each year.
Terry puts the adjustment on his Self-employment (full) pages for 2015 to 2016, to show:
|Net business profit||£10,000|
|plus Averaging adjustment||+ £15,000|
If the difference between your profits for the 2 years is between 25% and 30% of the profit for the better year, you work it out differently. To work out the averaging adjustment, multiply the difference by 3 and subtract 75% of the profit for the higher year.
Nahid is a partner in a partnership. Her share of the profits are:
|2015 to 2016||£50,000|
|2014 to 2015||£36,000|
The difference is £14,000. This is between 25% (£12,500) and 30% (£15,000) of the higher profit. So, the adjustment is:
|£14,000 x 3||£42,000|
|£50,000 x 75%||- £37,500|
Nahid puts the adjustment on her Partnership (full) pages for 2015 to 2016 to show:
|Share of partnership profit||£50,000|
|less Averaging adjustment||- £4,500 (with a minus sign)|
How to claim
You need to make your claim in your 2015 to 2016 tax return and show the adjustment to tax due for the earlier year on your Tax Calculation Summary. If your profits for 2014 to 2015 are the lower profits, you put the adjustment as an increase in tax. If they are the higher profits, you put it as a decrease in tax.
You don’t need to amend your tax return for 2014 to 2015. We’ll change the amount of tax and Class 4 National Insurance contributions you have to pay for 2015 to 2016 to take account of your adjusted profits.