No Reasonable Expectation of Profit Prevents Loss Claim

There is a common but incorrect belief that where a taxpayer incurs a trading loss, that can always be set against their other income to reduce the Income Tax they would otherwise pay.

The ability to set off losses against profits is the norm and there are special rules which apply to trades (e.g agriculture) where the transition from loss to profit can take several years or where the profits and losses are inherently unpredictable. As well as setting losses off 'sideways' against other income arising in a year, losses can in some circumstances be carried back and can always be carried forward against future profits of the same trade.

Claiming 'sideways' relief, however, depends critically on whether the trade itself is carried on 'with a reasonable expectation of profit'. Legislation to prevent all losses being relieved was introduced to prevent the claiming of losses on 'hobby businesses' run without proper commercial motivation.

Unfortunately, HM Revenue and Customs (HMRC) can apply the rules very strictly, as a recent case shows. It involved a couple operating a commercial dairy herd, which incurred a loss which they sought to set against their other income. The woes of the dairy business have been well known for several years as the global glut of milk production has driven down the prices producers receive.

When HMRC rejected the loss claim, the couple appealed to the First-tier Tribunal, which, although sympathising with their plight, found the tax law clear and upheld HMRC's decision, concluding that there was no reasonable expectation that the trade could have been carried on profitably.