Can I include business expenses before I have any income? Starting a new business can be expensive, with plenty of costs even before you have made your first sale. When you come to prepare your first year’s accounts for your new business, how do you know which start-up expenses you can include?
When is my business start date?
For tax purposes, HMRC are interested in your commencement of trade. Generally this is the point that you start supplying your product or services in return for money or other payment. The date the shop doors open to the public, the date of your first internet sale, the date you run your first course, the date of your first customer invoice.
The commencement of trade is the date that you will use for your first set of accounts if you a sole trader. For example, if you make your first sale on 11 November, then your first set of accounts will run from 1 November to 5 April (or 31 March). Every year after that they will be prepared from April to April in line with the tax year. You can choose a different year end date, but there are more complex issues involved in the first year, such as overlap profit.
Most limited companies use the company registration date as the commencement of trade date, unless there was a big time gap between registering the company and actually starting business. Unlike the sole trader, a limited company has it’s own financial year, not necessarily April to April. If a limited company started trading on 11 November then the first set of accounts will run for 11 Nov to 30 Nov next year (spanning just over a year). Then every year after that they will be prepared from 1 Dec to 30 Nov.
What counts as trading?
Sometimes the commencement of trade date is not so straightforward. Your commencement of trade could be before the first sale or invoice if there are preparatory activities that are required in order to make the sale itself. For example, for a training provider it may be the date that the first training course was delivered, rather than when the course was invoiced.
HMRC does not have a simple definition of trading, but uses a list called “Badges of trade”, to indicate when trading activities are likely to be taking place. They consider the circumstances on a individual basis and this is the best approach for you as well.
The commencement of trade should definitely be on / before the first invoice or money received date, but it can be before if that is appropriate to your circumstances.
I had to spend money before I made any sales, can I include it?
It is easy to start racking up business expenses before any sales have been made. Some types of business can have a long and expensive lead-in to the first sale. Don’t worry, most of these start up costs, known as pre-trading expenditure, can be included.
For both limited companies and sole traders, the pre-trading expenditure is treated as if it were incurred on the first date of trade.
You can include expenses from up to 7 years prior to the commencement of trade, if they relate wholly and exclusively to the business and they are normal business expenses that would be allowed after the commencement of trade.
This means if you could include an expense after you start trading, then you can include it before, as long as it is wholly and exclusively business related.
Example – A sole trader business made its first sale on 11 November. However, there were bills for advertising, phone bills and internet hosting for the business in the 3 months prior to the first sale. The accounts will start from 11 November and all of the pre-trading bills will go into the accounts dated as 11 November.
In a property business pre-trading expenditure only applies 6 months before.
Examples of pre-trading expenses
Some common examples of pre-trading expenses include:
Heat and light
Telephone and broadband
Equipment for the business
Interest on business loans
The wholly and exclusively can be a little misleading for example, you can pro-rata phone bills and use of home costs into private and business use in your pre-trading period, in the same way that you can once you are trading.
Big spending – equipment and other assets
If you are planning any large expenditure on equipment prior to the commencement of trade, you really want to make sure that you can include it for tax purposes. Large items of equipment become assets in your accounts and the cost gets spread out over a number of years with depreciation. In the tax return, the depreciation is often spread on a different basis via capital allowances.
If large items of equipment (assets) were purchased prior to trading, wholly with the intention to use them to carry out your trade, then you can claim annual investment allowance (AIA) in the first year. This means you can claim 100% of the asset value against your business profit for the year.
You must claim the capital allowances on the trade commencement date, not the date you actually bought the item. The capital allowances legislation limits change quite frequently so it is important to remember that the limits and rules you need to use are the ones on your date of commencement, not your date of purchase.
What about personal items brought into the business?
How about if you decide to bring your personal laptop into your new business? This will also become an asset in the business accounts in the same way as other equipment, but there are some differences between personal items and making a purchase.
Personal assets must be transferred at market value, not the original purchase value. So if your laptop was £1,400 new but you are transferring it into the business 2 years later, you will need to reduce the value accordingly.
You can claim tax capital allowances on personal assets brought in, but you won’t get the 100% annual investment allowance (AIA), instead you’ll just get the standard Writing Down Allowance (WDA) as part of the plant and machinery pool.
What is not allowed?
There are some items that are not allowed as pre-trading expenditure and this is generally to do with whether they are considered to be capital or revenue expenditure. Capital expenditure adds to or improves the business (or it’s assets) whereas revenue expenditure is related to the actual day to day operation of the business.
Licences and Registration – you can’t include capital expenditure that is related to getting established in business. e.g. company registration, pub license prior to opening (but you can have the renewal costs).
Repairs and improvements – this whole area of capital expenditure can be quite complicated. The cost of repairs to a building before trading could be substantial but may not be allowable. Repairs that are required to make premises fit for the trade or improve the premises are not allowed as pre trading expenditure. However, small scale repairs that relate to general maintenance are allowable. This is a grey area and is worth getting further advice from your accountant, preferably before you spend any money.
Training courses – training has to update or add to the existing skills and knowledge used in your trade in order to be included as a revenue expense. Acquiring a totally new skill is considered to be a capital cost and is not allowed. This means that training courses can only be included once you have started trading and should broadly relate to your existing trade; the initial training for your trade is not allowed and training for totally new and unrelated trades is not allowed either.
Limited companies – for a limited company there may be issues in claiming substantial expenses prior to the company incorporation date, as legally at that point the company did not exist and any transactions were personal ones made with the director, not with the company. If this is an issue and the expenditure is large, it may be worth getting further accountancy or legal advice.
Start up expenses can be included as pre-trading expenses if they would be allowed after you started to trade
They have to relate wholly and exclusively to the business (but you can pro-rata personal and private)
You can go back up to 7 years
They are included as at your commencement of trade date
Large equipment can be included as an asset and for capital allowances as at the commencement of trade date
Personal assets bought into the business are treated differently from items that you have purchased
Capital expenditure (other than equipment) is generally not allowed