If you haven’t heard of Making Tax Digital (MTD), you’re not alone. HMRC’s move to digital reporting is a massive undertaking, but awareness is highly uneven, according to a recent IPSOS survey, even among the self-employed. This is surprising as the new system will come into effect on April 6, 2024 and is expected to affect around 2.5 million people.
I’ve been warning creative freelancers about this for five years in my Finance for Freelancers training, but most freelancers I meet are only vaguely aware or completely unaware of what’s going on.
One possible reason is that digital record keeping and automated tax reporting seems like something for businesses, and artistic freelancers don’t usually think of themselves as such. But anyone registered as an independent sole proprietor is a sole proprietorship in the eyes of the tax authorities. They are the ones who need to start preparing now for BAT for income tax.
Another reason is that this is BAT’s fifth income tax delay since 2018. Maybe people don’t believe this will ever happen – IT WILL. So if you’re a self-employed freelancer, read on.
Q: How does this affect creative freelancers?
A: Any freelancer registered as a sole proprietor with an annual business income – or turnover – of over £10,000 should start thinking about how they will track their expenses as they go along.
When MTD comes into effect, it will be mandatory to keep records of tax-deductible turnover and expenses in real time. But you will also need to use MTD compatible software, which will report to HMRC every three months at the push of a button.
Q: How will this work?
You enter your income and expenses into the software as you go and every three months you press a button to upload the information to HMRC.
At the end of the tax year, you make adjustments or corrections, and add any other relevant information. You can then submit the final tax return through the software.
Q: Is it like filing a tax return five times a year?
A: Not really. You just tell them the revenue and costs as you go. The final tax return is done at the end of the tax year as now.
Q: Should I pay my taxes early?
No. At least not in the foreseeable future. You will receive your tax bills the same way you do now.
Q: Where can I get the software from?
Some people assume that the tax office will provide software for free, but that’s not true. HMRC will allow commercial software providers and you will need to register yourself by April 2024.
There are currently less than a dozen software packages on the gov.uk website that are licensed, and you probably haven’t heard of most of them.
There will likely be dozens of software packages seeking authorization by 2024. This will include the big ones like QuickBooks, Xero and FreeAgent which all have BAT in their sights.
I expect freelancers from different industries to rally around software that best suits their needs and budget.
Q: But do they cost money?
A: Yes, they do. A year’s subscription for existing accounting software is often over £200, and this new MTD system will compel sole traders to subscribe year on year. That’s a lot of money over the lifetime of an independent business.
Q: Will I also need to be registered for VAT?
A: No. VAT is a completely separate thing. The MTD for VAT is already mandatory for any company subject to VAT.
MTD for income tax is a separate system, although many “cloud accounting” software are capable of handling both.
Q: But can I ditch my accountant and replace it with an app now?
A: Not necessarily. Although HMRC refers to this software as “cloud accounting”, it is actually “cloud accounting”.
Software companies generally won’t be able to give you accounting advice, and even if they did, they might not know the intricacies of freelancing in the creative industries which may have industry-specific rules.
Nevertheless, MTD will be very disruptive for the accounting industry. If accountants can’t offer much more than bookkeeping services, freelancers may well stop using them and instead rely on the software to guide them.
Q: Will there be a backlash, rioting in the streets and mass disobedience?
A: Well, The Daily Telegraph is apoplectic, as this measured and restrained headline from 2020 shows: “Final proof that HMRC hates the UK self-employed.
In reality, some freelancers will get used to it quickly and some will not. And there will also be an unexpected devil in the details as more and more people start paying attention. HMRC launched a pilot scheme, but it was recently revealed that at one point only nine independent traders were taking part.
Q: Do I need to be a tech savvy to use the software?
A: Many freelancers will adapt easily, as long as they can log in and report relevant information every three months.
But some older, less tech-savvy freelancers may use this as an excuse to retire. (I’ve met some in my classes.) I’ve also met accountants who will retire by 2024 rather than have to learn this new way of doing things.
Q: It’s a government computer system. Will it crash and burn?
April 2024 is the fifth implementation date set by HMRC for MTD for individual traders. The latest delay was due to the pandemic.
But HMRC is enthusiastic about it. They say it will bring in more taxes. They will also be able to use computers to spot anomalies – quasi-tax inspectors if you will.
Q: Where can I learn more?
A: There are several online resources with more information:
Introducing Tax Digitization
MTD software for income tax (very little at the moment)
IPSOS research on preparation for BAT
I have been voluntarily using one of the software packages requiring MTD authorization for three years now. It’s nifty and makes record keeping easier as you can use an app on your phone as well as through your desktop computer.
I like the ability to take photos of receipts on the go and link the photo to the expense in the software. The receipt then goes straight to the trash. I even get my software to generate invoices and link to the bank account I use for my business affairs. It definitely saves me time and gives me clearer financial information.
Cost is the issue and will be a very big deal for some freelancers. Many self-employed people earn just £1,000 a month according to recent research by smallbusiness.co.uk. They are unlikely to be able to pay £200 a year just to report tax information. I expect agreements and special offers to be in place with software vendors by April 2024. Some banks have already moved into this space.
Ironically, if the BAT for income tax had been in place before the pandemic, HMRC could have supported all sole traders through the Covid income support scheme. Instead, they only supported those who had been in business for a few years, leaving new businesses in the lurch.
David Thomas is a financial skills trainer and founder of David Thomas Media.
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