Farming profits can be volatile and the availability of 100% Annual Investment Allowance on new plant and machinery can easily create taxable losses when expensive equipment needs replacing.
The ability to offset trading losses from farming activities against other taxable income earned in either the same or preceding tax year can be a valuable relief, particularly as farmers become more reliant on secondary income streams or farm diversification as part of their total income.
There are certain situations when losses incurred in the farming trade may not be fully relieved against other income as expected, which are highlighted below:
Limit on Income Tax Reliefs
The total amount of certain Income Tax reliefs, including trading losses that can be used to reduce total income is limited to £50,000 or 25% of total income if higher.
For example, if your business incurred a taxable loss of £70,000 and you generated income from other sources of £80,000 you would expect your net taxable income to be £10,000. However, the maximum loss claim would be restricted to £50,000, leaving £30,000 taxable and the remaining loss of £20,000 would be carried forward to offset against future profits of the same trade, unless a carry back option is available.
Planning may therefore be required when undertaking a major capital spend for example.
Trade is Not Commercial
HM Revenue and Customs can restrict loss claims against other income if the trade is not commercial. A trade is defined as being commercial if it is carried out throughout the period on a commercial basis and with a view to the realisation of profits.
Whilst the above legislation relates to all businesses, it was expanded upon specifically relating to farmers (and market gardeners). 40 years ago, the Chancellor at the time, James Callaghan made the following announcement in his budget speech:
‘I shall propose that, except in special circumstances, gentlemen known as ‘hobby farmers’ may no longer set off their losses against other income for more than five years running’.
This legislation still exists today (S67 of ITA 2007), although the phrase ‘hobby farming’ is not used in any of the clauses of the legislation. It is worth noting that the loss is calculated without regard to capital allowances.
There are certain exceptions to the rule and if you are concerned you may fall foul of this legislation or would like any further information regarding any aspect of this article, please get in touch with a member of our agricultural team.