Understanding the 9 Badges of Trade: “Am I required to pay taxes for the items I sell online?”

Badges of Trade: Unveiling the Key Indicators for Taxation in Online Selling”

We often have similar questions when starting to sell online. Starting from 1 January 2024, digital platforms such as eBay, Vinted, and Airbnb have been directed by HMRC to report the income information of their users. These platforms offer great opportunities for people to earn extra money in addition to their main income, and this move by HMRC will help ensure transparency and accountability in the taxation process.

It can be difficult to determine when selling items occasionally turns into running an active business. If you frequently buy or sell items to modify or restore them to sell at a profit, you may cross the threshold and become liable for taxes. In such cases, you will be required to file a Self-Assessment tax return with HMRC to report your income and calculate the tax owed.

Tax-Free Trading Allowance

Are you uncertain about whether you need to pay tax? It’s important to consider whether you view yourself as a trader who sells online regularly to make a profit, or if you sell unwanted items occasionally. If you frequently buy and sell clothes online to make a profit, possible you will need to pay tax. However, you’re in luck if you earn £1,000 or less from a side hustle in a tax year because you don’t have to pay tax or declare this income, due to the trading allowance. If you’re still unsure about whether you need to tell HMRC about additional income, you can check at https://www.gov.uk/check-additional-income-tax (GOV.UK, 2023).

Badges of Trade Test

To establish whether you are a sole trader engaged in an online business, certain key indicators can be used as a guide. It’s important to note that the laws surrounding trading are based on case law, so it’s crucial to consider all relevant factors. By examining the below factors known as the nine badges of trade, you can determine if there is enough evidence to support the argument that a trade has taken place. Ultimately, this information can be used to make informed decisions and ensure compliance with relevant laws and regulations.

1. Are there profit-seeking motives? To identify whether a trade has taken place, the motive to earn a profit is more important than the actual profit earned. HMRC is interested in taxing the profit earned, but if a taxpayer argues that they are trading to use a loss to reduce their tax bill, they must demonstrate the motive to earn a profit to establish that a trade is being carried on.
2. The higher the frequency and number of similar transactions, the harder to argue that it is not a trade. If you engage in an activity only once, it’s less likely that HMRC will view it as trading. However, if you engage in the activity frequently, HMRC may consider it as trading income and seek to tax the profits.
3. Any modification of the asset to make it more saleable? For example, ‘upcycling’ or otherwise adding value to the asset to make it more saleable at a greater profit, it could be classified as trading activity.
4. Nature of the asset. Is the asset of such a type or amount that it can only be turned to advantage by a sale? Or did it yield provide you some other benefit before the decision to sell i.e. ‘pride of possession’ such as a picture for personal enjoyment?
5. Connection with an existing trade – a direct link in nature to existing trade could be considered as a trade. For example, if a hairdresser bought hair care products which were then re-sold, it would be considered a trading transaction as the direct link with an existing trade.
6. Financing arrangements – In simple terms, was money borrowed to finance the activity? Could the funds only be repaid by selling the asset?
7. Length of ownership – When considering assets for trading, it’s important to keep in mind that those intended for trade are typically sold quickly, though not always. If, at the time of acquisition, there is an intention to resell an asset, then it’s likely to be considered for trading. On the other hand, if an asset is to be held for an indefinite period, then it’s less likely to be suitable for trading. Understanding these distinctions can help you make informed decisions when considering trading assets.
8. The existence of a sales organisation – if the sale of the asset is carried out in a manner that would benefit a trading organisation, then this would indicate that the transaction is one that is trading in nature.
9. What is the reason for the acquisition? If it is inherited or gifted, it is a good indication that a trade is not being made. But, if you had purchased a collection of designer shoes and sold them at a profit, it would be considered as trading.

However, the limitations include subjectivity as the application of the badges depends on the specific factors of each case. They may not cover every scenario and other factors may need to be considered. In conclusion, the badges of trade should be considered in round and all badges must be considered equally in deciding whether trading activity is involved. It is important to seek professional advice for accurate assessment in complex cases.

If you are concerned about anything around the topic of badges of trade and online selling then please get in touch

References

GOV.UK, 2023. Income Tax. [Online]
Available at: https://www.gov.uk/check-additional-income-tax
[Accessed 2023].

This article on badges of trade was written by Mia Win, Tax Associate for Edge Tax

The ‘badges of trade’ tests, whilst not conclusive, are used by HMRC to help determine whether an activity is a proper economic / business activity or merely a money-making side line to a hobby. Careful consideration needs to be given when deciding if a hobby has become a taxable activity.