Terminal Loss Relief (ss.89-90 ITA 2007) and Losses on Incorporation (s.86 ITA 2007): what happens to your trading losses when the trade ends or transforms.
ITA 2007, ss.89-91 (terminal loss) | ITA 2007, s.86 (incorporation) | HMRC BIM85055 | HS227 Losses (2025)
Most business owners spend their early years focused on building. Revenue, clients, team, product. The end of the journey, whether by choice, circumstance, or transformation into something new, often arrives without adequate preparation for one of the most valuable tax planning opportunities available: the terminal loss.
When a trade permanently ceases, HMRC allows the losses of the final 12 months to be carried back against the trading profits of the three preceding tax years. For a business with a profitable history before recent difficulties, this can generate a substantial tax repayment. It is not automatic. It requires a specific calculation, a formal claim, and an understanding of the rules that most business owners have never been told about.
Terminal loss relief can refund tax paid in up to three prior years. The relief is against trading profits only, not a net income claim. The carry-back applies later years first, which is the opposite direction to early trade loss relief.
Part 1: Terminal Loss Relief (ss.89-90 ITA 2007)
What Is Terminal Loss Relief?
Under s.89 ITA 2007, when a trade permanently ceases, the taxpayer may claim relief for the terminal loss (the aggregate loss of the final 12 months of trading) against the trading profits of the year of cessation and the three preceding tax years.
The relief is applied to later years first, starting with the most recent profitable year and working back. This is the opposite of early trade loss relief under s.72, where you start with the earliest year.
Critically, terminal loss relief under s.89 is a trading profit claim only. It can only be set against taxable trading profits (the profit from the trade itself). It cannot be used against employment income, rental income, savings interest, dividends, or any other non-trading source. This is in contrast to s.64 ITA 2007, which is a net income claim covering all sources.
ITA 2007, s.89 – terminal loss relief, later years first, trading profits only
Computing the Terminal Loss: The 12-Month Rule (s.90)
The terminal loss is defined in s.90 ITA 2007. It is calculated by reference to the final 12 months of trading, not just the final accounting period. This distinction matters when the final set of accounts covers a period shorter than 12 months, which is common, since businesses rarely cease on a year-end date.
The 12-month period is split at 6 April, the start of the tax year. This creates two components:
| Component | Period | Treatment |
|---|---|---|
| Final tax year | 6 April to date of cessation | Loss of this period + overlap profits b/f |
| Preceding tax year portion | 12 months before cessation to 5 April | Loss of this period only (no overlap) |
| If a portion shows a profit | Either component | Treat as nil – ignore the profit (s.90(1)) |
Overlap profits (profits that were taxed twice under the old Current Year Basis system, which applied before 2023/24) are added to any loss in the final tax year under s.90(5). They increase the terminal loss, which is appropriate because they represent over-taxation of earlier profits.
ITA 2007, s.90 – computation of terminal loss, overlap profits added under s.90(5)
Worked Example: Laura, Sole Trader Florist
Laura has been trading as a florist for many years, drawing accounts to 31 December. She ceases trading on 30 September 2024. Her most recent accounts show:
| Accounting Period | Result |
|---|---|
| Year ended 31 December 2023 | Profit: £24,000 |
| 9 months ended 30 September 2024 | Loss: £(18,000) |
| Overlap profits brought forward | £4,500 |
Step 1: Identify the final 12-month period. Laura ceased on 30 September 2024, so the final 12 months of trade run from 1 October 2023 to 30 September 2024.
Step 2: Split at 6 April 2024. The final tax year 2024/25 runs from 6 April 2024 to 30 September 2024, which is 6 months falling within the 9-month loss period. The preceding tax year 2023/24 portion runs from 1 October 2023 to 5 April 2024, which is 6 months straddling both accounting periods.
Step 3: Compute each component.
| Component | Calculation | Amount |
|---|---|---|
| Loss of final tax year (2024/25) | 6/9 x £(18,000) | £(12,000) |
| Add: Overlap profits b/f | Per records | £(4,500) |
| Subtotal: final year | £(16,500) | |
| Preceding year, Jan-Mar 2024 from loss period | 3/9 x £(18,000) | £(6,000) |
| Preceding year, Oct-Dec 2023 from profit period | 3/12 x £24,000 | £6,000 |
| Net for 2023/24 portion | £6,000 – £6,000 | Nil (ignored) |
| TERMINAL LOSS | £(16,500) |
The preceding year period (1 October 2023 to 5 April 2024) produces a net result of nil, the profit slice from the December 2023 accounts exactly cancels the loss slice from the 9-month period. Under s.90(1), this nil result is ignored. It does not reduce the terminal loss.
Laura’s terminal loss is £16,500. She can now carry this back against her trading profits of the three prior years under s.89, starting with the most recent year, later years first.
| Tax Year | Trading Profit | Terminal Loss Applied | Revised Trading Profit |
|---|---|---|---|
| 2023/24 (latest) | £22,000 | (£16,500) | £5,500 |
| 2022/23 | £18,000 | Nil – loss exhausted | £18,000 |
| 2021/22 | £16,000 | Nil – loss exhausted | £16,000 |
The full terminal loss of £16,500 is absorbed in 2023/24. Laura will receive a tax repayment based on the reduction of her 2023/24 taxable trading profit from £22,000 to £5,500.
ITA 2007, s.89 – carry-back against trading profits, later years first
Overlap Profits and the 2023/24 Transition: What You Need to Know
Overlap profits arose under the Current Year Basis (CYB), the old system for allocating accounting period profits to tax years that applied before 2024/25. When a business had a non-31 March year-end under CYB, profits in the opening years were sometimes taxed twice. The excess taxation was recorded as overlap profits and carried forward, to be deducted when the business ceased or changed its year-end.
During the 2023/24 transition year, all continuing businesses with non-31 March year-ends were required to align to the new tax year basis. As part of this transition, any overlap profits accumulated under the old system were automatically deducted (over a maximum of five years). This means that for most businesses ceasing from 2024/25 onwards, there will be little or no remaining overlap profit to add to the terminal loss.
However, for businesses that ceased during or before 2023/24, or those with partial overlap relief remaining (where the transition profit was spread over fewer than five years), overlap profits may still be material. The terminal loss computation under s.90 will always require this figure to be checked.
Practical check: look at Box 70 of the Self Assessment trading pages for the overlap relief figure brought forward. If it is nil post-transition, no adjustment is needed in the terminal loss computation.
ITA 2007, s.90(5) – overlap profits added to terminal loss; BIM81300 – transitional rules
The Relationship Between s.89 and s.64
Terminal loss relief under s.89 is not the only option available in the year of cessation. A taxpayer may also make a standard s.64 claim (relief against net income of the current or preceding year) for the loss of the final tax year.
The two are not mutually exclusive. Where the terminal loss is large, a taxpayer might use s.89 to carry back against trading profits over multiple years and still make a s.64 claim on any balance of loss not absorbed by s.89. The choice between them depends on the tax rates applicable in each available year and whether the taxpayer has non-trading income that s.64 could access.
Key planning point: s.89 accesses trading profits only, reaching back three years. s.64 accesses net income from all sources, in the current or prior year only. Used together, they can maximise the total loss relief recovered.
ITA 2007, s.64 – see also Subject 11A for s.64 mechanics
Claim Deadline for Terminal Loss Relief
The time limit for making a terminal loss relief claim under s.89 ITA 2007 is four years from the end of the tax year of cessation. For a trade ceasing in 2024/25, the deadline is 5 April 2029. This is a longer window than the s.64 claim deadline (the first anniversary of 31 January following the tax year), so there is more time to plan, but no reason to delay.
ITA 2007, s.89 – HMRC HS227 Losses (2025): deadline 5 April 2029 for 2024/25 cessations
Part 2: Losses on Incorporation (s.86 ITA 2007)
When the Trade Becomes a Company
When a sole trader or partnership incorporates, transferring the trade into a limited company, the nature of the business changes fundamentally in law. The individual no longer carries on the trade. The company does.
This has a direct consequence for any unrelieved trading losses carried forward. Under s.83 ITA 2007, a trading loss can be carried forward and set against future profits of the same trade. But if the trade is now being carried on by a company rather than the individual, s.83 carry-forward relief is not available. The trade is different.
The risk: incorporating a business with significant loss carry-forwards without planning can mean those losses become permanently stranded. They cannot follow the trade into the company under s.83.
The s.86 Rescue Provision
Section 86 ITA 2007 provides a specific rescue for exactly this situation. Where a trade is transferred to a company and the consideration (the value received in exchange) is wholly or mainly in shares, the individual can set their pre-incorporation trading losses against income they derive from the company in future tax years.
Crucially, income from the company for this purpose includes:
- Salary (employment income received from the company)
- Dividends (distributions of company profits paid to the shareholder)
This is a significant extension. It means an individual who has incorporated their business can recover historic trading losses through the structure of their remuneration from the company they now own and work in.
ITA 2007, s.86 – relief for trading losses on incorporation, confirmed in HMRC HS227 s.8
Worked Example: Mark, IT Consultant
Mark has been trading as a sole trader IT consultant for several years. He has accumulated trading losses of £35,000 which have been carried forward under s.83 but not yet relieved.
On 1 February 2025, Mark incorporates his business into Mark Digital Ltd. The entire consideration for the transfer of his trade and assets is received in shares in Mark Digital Ltd (100% of consideration in shares, satisfying the requirement for more than 80%). In tax year 2025/26, Mark receives the following income from the company:
| Income Source | Amount |
|---|---|
| Salary from Mark Digital Ltd | £30,000 |
| Dividends from Mark Digital Ltd | £8,000 |
| Total income from company | £38,000 |
Amount of relief = lower of: (a) losses brought forward (£35,000), or (b) income from the company (£38,000). Relief = £35,000 (all pre-incorporation losses are absorbed).
| Amount | |
|---|---|
| Total income from Mark Digital Ltd | £38,000 |
| Less: s.86 relief | (£35,000) |
| Taxable income from company | £3,000 |
| Losses remaining to carry forward | Nil |
The full £35,000 of accumulated trading losses is relieved against Mark’s company income. The taxable income from the company in 2025/26 is reduced to £3,000. No losses remain to carry forward to future years.
The Conditions for s.86 Relief
The relief under s.86 is not unconditional. Three requirements must all be satisfied:
| Condition | Detail |
|---|---|
| 1. Consideration in shares | The trade must be transferred to the company with consideration that is “wholly or mainly” in shares. HMRC interprets “mainly” as more than 80% of the total consideration. Note: this refers to the consideration received, not the individual’s eventual shareholding percentage. |
| 2. Shares held throughout | The individual must be the beneficial owner of the shares received throughout the entire tax year in which the s.86 claim is made. |
| 3. Company still trading | The company must still be carrying on the trade throughout the tax year of the claim. If the company has ceased, changed its activities materially, or the shares have been sold, the relief is not available. |
These conditions apply year by year. A taxpayer with losses large enough to require s.86 relief over multiple years must ensure the conditions are met in each tax year they make a claim.
ITA 2007, s.86(2)-(4) – conditions for pre-incorporation loss relief; HMRC HS227 Losses (2025) s.8
How Much Relief Can Be Claimed Each Year?
The amount of s.86 relief in any single tax year is limited to the lower of the unrelieved trading losses carried forward from before incorporation, and the total income derived from the company in that tax year (salary plus dividends).
Any excess losses (where the carried-forward losses exceed the company income in a given year) are not lost. They carry forward to be set against future company income in subsequent tax years, provided the conditions for s.86 continue to be met. This creates a rolling relief mechanism that can recover years of pre-incorporation losses over time, as the company grows and pays increasing levels of salary and dividends.
ITA 2007, s.86(1) – amount of relief limited to income derived from company
Strategic Planning at the Point of Incorporation
The interaction between s.83 (carry-forward against trade profits), s.86 (relief against company income after incorporation), and the optimal structuring of remuneration from the new company creates a genuine planning opportunity that is worth addressing before the transfer takes place, not after.
Three questions that should be answered before any incorporation:
- What is the total value of unrelieved trading losses to be transferred?
- Will the consideration received be more than 80% in shares? Cash consideration reduces the proportion and may breach the s.86 threshold.
- What level of salary and dividends is planned from the company, and over how many years will the losses be absorbed?
These decisions need to be taken deliberately and in advance. The structure of the incorporation transaction itself determines whether s.86 is even available.
Whether you are closing a chapter or beginning a new one, the losses you have accumulated in trading are not simply a record of what did not work. They are a tax asset, a number on a return that has future value if handled with precision.
The moment a business stops trading is not the moment to start thinking about loss relief. It is too late to optimise. The terminal loss computation, the s.89 carry-back, the s.64 comparison, the s.86 question, all of these are most valuable when addressed during the planning phase, before cessation or incorporation takes place.
A good accountant does not just file the return that records the closure. They review every available relief, calculate the optimal claim, and ensure that the tax position of the closing chapter is as clean as the books themselves.
What to Do Next
If your business has ceased or is about to, or if you are planning to incorporate and have losses to protect, this is a time-sensitive conversation. Terminal loss claims must be filed within four years. Incorporation structures must be set up correctly before the transfer.
At Zazentax, we make sure that the end of your trading life as a sole trader is the beginning of a financially optimised next chapter.
Explore our service packages: www.zazentax.com
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