Sole trader sellers: stock is deducted when you pay for it

A sole trader who sells online now usually pays tax on cash in and cash out. Since 6 April 2024 the cash basis has been the standard way for sole traders to work out their profit, and under it, stock bought to resell is an expense when you pay for it, not when it sells. Christmas stock paid for this month counts against this tax year's profit, even if some of it is still on the shelf in April.

What the cash basis does

HMRC's guide to the cash basis says you "only record income or expenses when you receive money or pay a bill", and lists "buying goods for resale" as an allowable expense. HMRC's Business Income Manual spells out the consequence: there is "no need to account for debtors, creditors, stock and work in progress".

You can choose traditional accounting instead, where unsold stock at the year end is carried forward and only the cost of what you sold is deducted. Limited companies cannot use the cash basis at all.

What it does to the numbers

Illustration, not a real client. Marcus sells trainers on eBay and his own site from Deptford as a sole trader. In the tax year to 5 April 2027 he receives £60,000 from sales, pays £40,000 for stock and £6,000 in fees and other costs. On 5 April, £8,000 of that stock is still unsold.

• On the cash basis his profit is £14,000: £60,000 less £40,000 less £6,000.

• On traditional accounting, starting the year with no stock, the £8,000 of unsold stock is carried forward, so his profit is £22,000.

• Next year, when that stock sells, the cash basis has no deduction left to give for it. The £8,000 moves from one year to the next. It does not disappear.

That is the point to hold on to. Buying stock in March cuts this year's profit, but it raises next year's by the same amount when the stock sells. If next year's profit is bigger, the shifted amount could be taxed at a higher rate than it would have been.

When traditional accounting suits better

HMRC itself says you might prefer traditional accounting if your business "is complex, for example, it has high levels of stock", or if you need finance, because "a bank could ask to see accounts drawn up using traditional accounting". A seller whose stock swings a lot from year to year may find the cash basis makes their profit look erratic, which matters when a lender or a mortgage broker is reading it.

Two more points. If you stop trading, the value of the stock you still hold is added back as income in your final year, on a just and reasonable basis such as cost. And if you moved from traditional accounting to the cash basis, your first cash basis return should have included an adjustment for the stock you held at the switch, so you were not denied relief on it.

Tax view and margin view

Tax on the cash basis and knowing your margin are two different jobs. For running the business, I would still want to see each item's cost in the month it sold, because that is the only way to see which products make money. The tax return can use cash while the management figures use cost of sales.

Matching stock to sales month by month is much of the work described in how we keep the books for online sellers. Before you pay for any stock in March, check what next year's profit will look like when it sells.

About the author

Harvey Dhillon is Founder and CEO of Zmartly, an accountancy firm for ecommerce sellers. He grew up in West London and began his career in finance at Barclays, in investment banking and wealth management, before going full-time on Zmartly in 2020.

Featured photo by Adrian Frentescu on Pexels.