Tax Credits: Income from self-employment (or trading income)

Trading income for tax credits is the claimant’s taxable profits as defined in Part 2 of ITTOIA 2005. This is broadly the same as the business profits appearing in the claimant’s self-assessment return. See page 15 of TC600 guidance notes.

However, the income tax rules on the averaging of trading profits which apply to farmers and creative artists do not apply to tax credits.

Note also that relief for trading losses is computed differently from tax - see below.

If the claimant is a partner in a trading partnership their trading income for tax credits is the taxable profit arising from their share of the partnership’s trading or professional income.

Relief for trading losses

While the calculation of trading profits and losses is the same for income tax and tax credits, there are important differences in the way the relief is calculated for tax and tax credits.

Where the trader is making a joint claim with their partner, a trading loss must be offset, for tax credits, not just against the trader's current year income but against the joint current year income of the trader and their partner.

There is no ‘carry-back’ of losses for tax credits – see example below.

Any surplus may be offset against profits of the same trade in future years for tax credits.

Unrelieved losses of 2001-02 – that is, losses which could not be fully relieved in that year – can be carried forward to 2003-04 and beyond for tax credits; but losses incurred in years prior to 2001-02, or in 2002-03, cannot. These are effectively 'non-years' for tax credits, because the income of those years is not used for any tax credit purpose.

Trading losses cannot be carried forward for tax credits unless the trade in which they were incurred is being undertaken on a commercial basis and with a view to realising profits.

HMRC have produced worksheet TC825 which gives guidance on certain deductions and trading losses.

Example

Bill has the following trading results from 2011/12 to 2015/16. His wife Emily has employment income of £10,000 for each of those years.

Tax year

Profit/(loss)

£

Bill – taxable

£

Emily salary

£

Bill/Emily tax credits income

£

2015/16

5,000

NIL

10,000

10,000

2014/15

(15,000)

NIL

10,000

NIL

2013/14

3,000

NIL

10,000

13,000

2012/13

2,000

NIL

10,000

12,000

2011/12

5,000

NIL

10,000

15,000


As can be seen, Bill makes modest trading profits in 2011/12, 2012/13 and 2013/14. He then sustains a serious loss in 2014/15.

The £15,000 loss is offset against the couple’s current year income i.e. Emily’s earnings, leaving £5,000 to be carried forward and set against Bill’s £5,000 profits of the following year. Their income for tax credits for 2015/16 is just Emily’s salary of £10,000.

For tax purposes, however, the loss can only be set against Bill’s profits of the previous three years (i.e. the ‘carry back’) and any surplus carried forward against future years’ profits. The £15,000 loss is, therefore, sufficient to reduce Bill’s profits from 2011/12 to 2015/16 to nil.

Legislation: Income Regulations (SI 2002/2006), reg 3(1), Step 4.

Updated 28 July 2016