UK farmland

Understanding your Cash Flow and Tax Payments

Farming businesses are being told to plan for the consequences of Brexit. This is extremely difficult when the date and details keep changing while you have day-to-day farming decisions to make.

There are some more mundane but equally important areas of planning you can focus on -  that of understanding your cashflow and your tax bills.

Having up to date information

It is easy to say that because commodity prices are volatile and both income and expenditure will change, that a budget or cashflow statement for the year ahead is of limited use. By having a prediction of when cashflow is at its worst during the coming months, you are at least aware of the potential problem. If prices then change you can quickly identify the consequence, and whether you need to talk to your bank manager. A bank manger would much rather discuss the need for increased facilities before the event, than wait for you to go over your overdraft limit.

One effect of the introduction of Making Tax Digital for VAT purposes is that far more businesses now have up-to-date digital information which can be used for this purpose.

The difference between profit and cash

Insolvency experts will tell you that businesses get into difficulties because of a lack of cash which is different to a lack of profit. This is known as “over trading” when a profitable business gets into difficulty through running out of cash. Causes of this can include:

  • Increased stock numbers and values. For example a business with an extra 100 sheep at the end of the year will have either purchased them or spent money rearing them. This does not affect the accounting profit, but obviously has impacted on cashflow.
  • Purchase of machinery and buildings. This capital expenditure will be depreciated and written off against profit over several years. Ideally repayments on finance taken out to fund capital expenditure should be are matched to the period over which the asset will produce income.
  • Repayments of loans and other sources of finance are split between interest and capital. It is only the interest portion that is deducted from profit.
  • Private drawings from a partnership are not deducted from the profit and loss account.

If a business does not generate sufficient cash to cover loan repayments, drawings, and increased working capital, then inevitably there will be pressure on the bank balance.

The difference between accounting profit and taxable profit

The main difference here is the treatment of capital expenditure. As mentioned above, assets are depreciated over several years, but this cost is not an allowable expense for tax purposes. Instead there is a system of capital allowances, and in recent years 100% relief has been available in the year of purchase of most farm machinery and commercial vehicles.

This means that depending on the level of capital expenditure in an accounting period, the taxable profit can be totally different to accounting profit:

  • In a year when a new tractor for example is purchased, there could be no tax to pay.
  • In the following year where there is much less capital expenditure tax bills are higher.
  • The cashflow position is made worse if the new tractor is on hire purchase and repayments fall due in later periods when higher tax bills are payable.

Tax payments

The issues discussed so far in this article are equally applicable to partnership and limited companies. The timing of tax payments does differ according to the legal entity through which you trade. A company’s tax bill is much easier to understand with a single payment nine months after the end of the accounting period. An individual’s tax bill by contrast consists of two payments on account followed by a balancing payment. The payments on account are initially based on the level of profit in the previous year.

This means that where taxable profits fluctuate, either because of the level of capital expenditure discussed above or dramatic changes in milk or livestock prices, that the payments on account will be either too high or too low:

  • If you are certain the current year’s profit is going to be much lower than last year, then a claim can be made to HMRC to pay a reduced payment on account in January 2020.
  • Conversely if you are having an improved year – perhaps due to better forage crops and lower feed bills – then you still have time to take action before the end of the tax year to reduce the eventual tax bill.

For assistance with managing your cashflow or tax planning, get in touch by calling 01228 690200 or email steven.brown@armstrongwatson.co.uk.

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