Your guide to surviving 'Making Tax Digital'

Abstract

In the 2023/24 tax year, 7mn individuals completed the income tax self-assessment either as landlords or self-employed sole trader businesses. Accountants argue dealing with HM Revenue & Customs (HMRC) can often be challenging, with issues such as long wait times, incorrect refund amounts, and errors in tax codes causing significant frustration. [...]some commentators have likened the change to a money grab for HMRC. Under the current self-assessment filing system, taxpayers face a penalty if they miss the deadline for submitting a return or paying their bill.

For many self-employed workers, the annual self-assessment process has always been the way to declare tax liabilities. Launched at the turn of the millennium, it has evolved into an online service and app used by 12mn people.

But its next evolution is going to hit hard. In the 2024 Autumn Budget the Labour government confirmed its commitment to launching Making Tax Digital (MTD) for income tax.

Described as "the most significant change to the self-assessment regime since its introduction in 1997" by Craig Ogilvie, HMRC's former director of MTD, participants will be required to make quarterly updates to HMRC, rather than submit an annual self-assessment form.

The broad goal is to move away from paperbased processing towards digital record-keeping and reporting.

Who will it affect? The MTD programme has been hampered by delays and complications since it was announced in 2015. Those who had previously heard of it could be forgiven for thinking 'Will this ever come in at all?', rather than 'Does this apply to me and what should I be doing to get ready?' However, change is now imminent. In the 2023/24 tax year, 7mn individuals completed the income tax self-assessment either as landlords or self-employed sole trader businesses. Forty two per cent of those participants have a qualifying income, which will mean they need to join MTD either now or in the near future, making it one of the biggest tax changes in a generation.

The new regime will be implemented in stages. If you had an income over £50,000 in the 2024/25 tax year, you need to act quickly as you'll be required to use MTD from April 2026.

Those with an income of £30,000 in the 2025/26 tax year will be required to use MTD from April 2027. Meanwhile, those with an income of £20,000 in the 2026/27 tax year will be required to use the service from 6 April 2028.

"It will make it easier for self-employed people and landlords to stay on top of their tax affairs and help ensure they pay the right amount of tax," Ogilvie claims. In theory, it should make tax bills less of a shock, avoiding any nasty January surprises and aiding cash flow.

Whether this makes the process easier is up for debate. Comments on HMRC's Facebook page include workers complaining that they face "fivefold the accounting submissions for no gain". Meanwhile, many accountants say they still don't know how they are going to deliver the service to clients.

The changes come against a backdrop of poor service levels. Accountants argue dealing with HM Revenue & Customs (HMRC) can often be challenging, with issues such as long wait times, incorrect refund amounts, and errors in tax codes causing significant frustration.

Lancashire-based Rushtons Accountants says the decline in service standards from HMRC in recent months and years has been "notable".

What happens if I get it wrong? Unfortunately, there's also been very little support, education, and communication around the MTD change. For example, HMRC wants self-employed people and landlords to sign up to a testing programme on gov.uk to familiarise themselves with the new process, before it becomes compulsory. But, so far, only 2,400 users have joined this testing scheme.

Signing up may prove worth it because if you don't understand MTD properly you risk being non-compliant, leading to penalties when the regime starts next year.

Penalties for non-compliance will be higher than under the current self-assessment regime. As a result some commentators have likened the change to a money grab for HMRC.

Charlene Young, senior pensions and savings expert at AJ Bell explains: "It's estimated that the increased fines could bring in £370mn by 2030."

Under the current self-assessment filing system, taxpayers face a penalty if they miss the deadline for submitting a return or paying their bill. Penalties start at £100 if a return is up to three months late, with added fines the longer the return goes unfiled and tax unpaid. For unpaid tax, a 5 per cent fine applies after 30 days, with an extra 5 per cent after six and twelve months. Interest is also charged on late payments.

However, under MTD, late payment penalties for income taxpayers for 2025/26 will be: • 3 per cent of the tax outstanding where tax is overdue by 15 days; plus • 3 per cent where tax is overdue by 30 days;

plus • 10 per cent a year where tax is overdue by 31 days or more.

Young says: "A self-employed person owing £25,000 income tax will probably find themselves owing £26,913 after [a delay of] four months. Under the new MTD rules this could be over £28,000, an increase in fines of around 6 per cent."

Who will the MTD regime not apply to? It is worth noting that MTD tax will not apply to individuals whose income is from pay-as-you-earn employment, limited company dividends, investments, savings and pensions only. It is aimed at sole traders (the self-employed) and landlords, not limited company owners.

While the current rollout will only affect those earning a qualifying income of £20,000 or more, the government announced in the Spring Statement that it would explore how the benefits of digitalisation can be extended to those with income under £20,000. So if you fall into this category, you still need to keep an eye on how the project progresses.

When considering the thresholds, it is income, not profit, that matters, and if you have multiple (relevant) sources of income - such as a trade and a rental property - you need to combine the income from them all when work-

ing out whether you breach the threshold. You

do not, though, combine income sources when it comes to actually keeping digital records and making quarterly submissions: each needs to be recorded and reported separately.

If you have income over £50,000, you'll need to sign up through your Government Gateway account (or via your accountant) as you won't be enrolled automatically.

Then, you'll need to do four things from April 2026:

• Keep digital records of your income and expenses from the start of the tax year.

• Send quarterly updates to HMRC via MTD-compatible software - these are summaries, not full tax returns, sent every three months (usually by 7 August, 7 November, 7 February, and 7 May).

• If needed, make any adjustments to your income and expenses before finalising your income tax position.

• Complete and submit your tax return by 31 January, replacing the traditional self-assessment return, and include all your income and confirm your total tax liability.

To prepare for the change, ensure you have an accurate record of your income and expenses. Landlords falling within MTD must keep digital records of income sources such as sales, takings and fees, plus expenses such as inventory costs, travel expenses, and office-related costs.

All properties in the UK are treated as a single 'UK property business', so landlords are not required to keep separate digital records for each property. Taxpayers with income from jointly owned property will be able to opt to use simplified digital records and/or not submit quarterly expenses information in respect of the jointly owned properties.

The time limit for retaining digital records under MTD is the same as the self-assessment record-keeping requirement: five years after 31 January following the tax year to which the records relate.

Accounting software You can also choose and start using MTD compatible accounting software - this should save time when calculating your tax, but the new rules make it mandatory in any case. If you use an accountant, they should be well aware of the deadlines, but make sure you contact them to discuss what you need to do.

If you have an accountant, the record-keeping software you use does not necessarily need to be 'MTD-compatible'; your agent may be able to import data from your existing system, such as an Excel spreadsheet, into their own MTD-compatible software and make submissions on your behalf.

MTD-compatible software comes in two broadly different types. The first allows you to create digital records by importing transactions from your business bank account, scanning receipts and invoices, or manually entering income and expenses.

There is also bridging software, which connects to existing records you keep in either spreadsheets or other accounting tools and submits them to HMRC. The advantage of bridging software is that it allows you to continue using your existing system.

You might want to use one type of software for everything or use two products that work together - one for creating records and one for submitting to HMRC.

You can visit www.tax.service.gov.uk/ find-making-tax-digital-income-tax-software to make use of a tool that finds compatible software based on your specific requirements. Some of the listed products may have free trials or free versions, but you'll have to pay for others.

Several big-name accounting software providers have offerings. Sage offers a free version, plus a simple version with extra features at £7 per month that is free for the first 6 months. Intuit QuickBooks has a version for £10 a month. Clear Books offers both free and paid plans.

Hammock is designed exclusively for landlords, with property-specific insights like rental income and arrears tracking. It offers a 30-day free trial and is then £8 a month.

Or you could sign up for an accountancy service. You can expect to pay an accountant £300 to £400 a year for MTD. While you can claim the accountancy fees for work that relates specifically to your business or rental property as an expense, you need to be careful not to claim this for personal income such as savings interest and capital gains on investments.

Ask your accountant to provide a breakdown of their fees. They should be able to tell you, for example, that "£250 was for preparing your sole trader accounts, and £150 was for preparing and filing your personal tax return."

You may be able to apply for an exemption from MTD if you're 'digitally excluded': unable to use electronic communications or to keep electronic records either for religious or practical reasons, such as age, disability or location.

However, HMRC says it will not accept that a person is digitally excluded where the only reason they are applying for the exemption is that they previously submitted a paper tax return, are unfamiliar with accountancy software, only have a small number of digital records to create or are concerned about the time and/or cost pressures of MTD.