Why Accountants Shouldn't Use Bank Transactions to Do Sole Trader Tax Returns

HMRC require sole traders to provide them with their income and expenses summary totals, not their bank balance or bank transaction totals. Legally, tax records are not bank statements, but sales and purchase invoices (or till rolls etc). For these reasons, staff working in tax departments rarely use bank transactions to complete tax returns unless there is a specific good reason to do so. It is accountants that have not worked in tax departments that throw most of their sole trader clients into doing a bank rec with transactions coming from the bank, as this is what they do with company accounts where a P&L and B/S are required, which needs a bank. The bank reconciliation gives the accountant an illusory comfy blanket that the return must have all the transactions in it, as the bank is reconciled.

Before we get into the meat, there are a few instances where bank transactions do need to be used: such as if a P&L and Balance sheet are required. However, these are usually only necessary for clients that wish to sell their business one day: for those that have inherent value not attached to them personally (eg: a pub). Most sole traders are small and aren't able to sell their business (other than perhaps a sale of assets, like a taxi driver selling their vehicle - which require no P&L and Balance Sheet). Most sole traders do no seek finance, and where they do, I have never seen a small sole trader required to produce a P&L and Balance Sheet. Most small sole traders are not looking for big loans (except perhaps on a home loan), but normally are able to take unsecured personal loans where no accounts are required, or the loan is asset-backed, such as car finance.

There are accountants that do P& L and Balance sheet accounts for no good reason: the client has not asked for them, they do not go anywhere except in a drawer, the client doesn't understand them and they are not required for a self assessment tax return. Some accountants who have never worked in a tax department just feel comfortable making up P&L and Balance Sheet accounts because it is what they have always done, projecting that onto their small sole trader client base and charging for it!

Preparing a tax return from bank statements has its problems: 

1. Accounting Records for tax are purchase and sales invoices (or till rolls etc), not bank transactions, so if an accountant just asks the client for access to their bank data, it is likely that the client is not keeping proper records as no one is asking for them. If an accountant asks a client instead for their sales and purchases to do their tax return, you can bet the client will empty their glove box and not throw receipts away, as they know their tax bill is related to their ability to keep and provide their records to the accountant. In fact a tax deduction in a tax return should only be given where proof of an accounting record is kept. If there is an investigation and the accountant put figures in a tax return that have no legal record, you can bet the client will blame the accountant. If an accountant is using a bank feed, either they are having to waste time matching invoices to bank transactions as well, or they are preparing tax returns based on records that have not been kept for which no tax deduction should be given.

2. Completing the records from bank statements leads to doing the tax return on a "cash-basis". The cash basis is not largely used by accountants for sole trader tax returns, as it makes the work of an accountant more difficult, as some clients cannot use the tax-basis, and so accountants have to learn a second different way of completing the books, as not all clients can use it, every year. Furthermore the accountant would need to know if the cash-basis cannot be used, which they may not realise until they are a good way through the bookkeeping already, such as a loan has been taken out partway through the year, where substantial interest has been paid. Loan costs over £500 are not allowed on the cash-basis. Attempting to "un-do" the cash-basis that naturally arises from using bank transactions adds an extra burden. Furthermore, a client can yo-yo in and out of higher rate tax if the cash-basis is used. All these issues mean an accountant must consider carefully each year whether the cash-basis is in the best interests of the client or not. It is far easier just to put all sole trader clients on the accruals basis, and not have to consider all these issues each time a sole trader tax return is completed.

3. By undertaking the bookkeeping from bank transactions instead of sales and purchase invoices, the bookkeeper will attempt to make the taxpayer use a particular bank account(s). This is forcing the client to make the bank tail wag the business dog! Of course, there will still be some transactions that never reach the bank account that need to be taken care of, such as the petrol receipt paid for from a different bank account, as the normal business card wasn't working at the till.

4. In using bank transactions, there will be bookkeeping done for a good number of transactions (perhaps 25% say) that have nothing to do with the tax return, creating extra work for the bookkeeper: personal expenses, drawings, loan repayments and so forth that have to be stripped out or put somewhere else in the bookkeeping.

Some accountants end up using bank transactions only because they (or their bookkeeper) have not learned to touch-type at speed (60 wpm+). They are using some online software that uses bank feed due to not being able to undertake bookkeeping by just looking at the invoices, occasionally looking at the screen. For someone that has to look at the keyboard to type, bookkeeping will be slow. Firstly one has to look at the invoice, say to get a date, then the keyboard to enter that date, then the screen to check its right, then when they look back at the invoice they have forgotten where they were. A good bookkeeper will look only at the invoices and occasionally at the screen.

Of course, there are a minority of occasions when bank transactions are useful, such as an online business where the sales are already held in digital form. But for the more likely contractor, who has perhaps 10 expenses a month and a single sales invoice, it will always be quicker for a fast bookkeeper to enter the sales and purchases by manual input. Sole traders that trade online normally do not use an accountant. Most sellers on Amazon make hardly any profit (the lion's share goes to Amazon), most taxi drivers congregate around a single dirt cheap accountant, whilst many contractors use a variety of accountants as they can simply afford to pay them and are more interested in the relationship. So most accountancy firms have more low transaction volume, high profit sole traders that lend themselves more to manual bookkeeping.

But what about scanning software, isn't that quicker than manual input? Often that is not the case, or rather not at least for the fast bookkeeper. Many accountancy firms did tests on scanning software compared to direct data entry and found manual entry faster, or perhaps the same, but at least saved on software costs. By the time the invoice has been scanned, sent over to the software provider and the online transaction reviewed, it may have been quicker to enter the transaction manually in the first place.

ITSA MTD isn't necessarily then the time to wholesale throw all clients onto bank feed or receipt scanning software, for the majority, a spreadsheet will be the best option.


In conclusion, yes, there are times when a bank feed is useful for the sole trader, or even the property rental landlord, but throwing all or most sole traders and landlords onto software will substantially hit your bottom line profits for the sake of just being lazy: listening more to the online software marketing drum-beat than common sense and hard-work.  

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