Plan now for Entrepreneurs' Relief on the sale of your company
31 March 2011
The Coalition emergency Budget last June dramatically overhauled the capital gains tax (CGT) rules. Out went the flat rate of 18% to be replaced by a maximum rate of 28%. There is still no allowance for indexation but Entrepreneurs' Relief remains to reduce the rate of CGT to 10% on the disposal of business assets.
The amount of Entrepreneurs' Relief that can be claimed has also dramatically increased. It now gives a 10% rate of tax for £5 million of qualifying gains per individual, which increases to £10m from 6 April. This will make it worth a maximum of £1.8 million of tax saved per individual and therefore a relief that cannot be ignored.
As a result we are beginning to see strategies emerging for making the most of the relief and the pitfalls if there is no planning. Much of the action centres around sales of shares in private companies and whether Entrepreneurs' Relief will be available. The rules are tightly drawn and not all shareholdings will qualify.
To qualify the rules require the company to be a trading company (which means at least 80% trading activities) and the individual to have at least 5% of that company and to be an employee or company officer. Crucially all of these criteria must be met continuously for the 12 months before sale. If they are not, there will be no relief.
It is easy to miss out on the relief, but there is also a great potential to plan within these rules to qualify for it where you might not expect it to be available. For example:-
- There is scope to use more than one £10 million allowance
Bernard owns all the shares in a company but the gain will exceed his £10 million allowance. He could transfer shares to his wife and she in turn could qualify for relief. It is also possible to transfer shares to their children and take advantage of their allowances. Each individual qualifying could potentially save £1.8 million of tax.
- You must be an employee or officer at sale
Jane has owned 5% of the shares and been a company officer for twelve months prior to sale, but at the last minute, just before sale, is dismissed or resigns. Result - no relief.
Frank has owned 5% of shares in a company for twelve months but has always operated as self-employed for National Insurance Contribution purposes. On sale he will not be treated as an employee. Result - no relief.
- What if the shares have not been owned for 12 months?
Susan has some share options in a company which are exercised immediately prior to sale. Although she has the 5% interest, she will not have owned them for twelve months. Result - no relief.
This is a common problem and solutions are emerging to allow the deal to be done now but in a way that still allows Entrepreneurs' Relief to be claimed. For example, if it is acceptable to defer some of the sale price, then those shares could be sold by way of an option exercisable at a later date once the 12 month ownership period has passed. Better still, the options should be exercised 12 months before sale to give the necessary holding period.
- What if you hold less than 5%?
Adam would qualify for relief on his shares except that he holds less than 5% of the company. To get him over the 5% threshold he could be given extra shares. The legislation is helpful here in that the definition of shares qualifying for Entrepreneurs' Relief is broad. This means the shares that he receives could have extremely limited rights and economic value, but still bring him up to the threshold.
If numerous shareholders are under the 5% threshold, a solution might be to give them a shareholding in a new company in which they will each own at least 5%. This would give them relief even though that company will only own a small stake in the main company.
- What about land used by the company but not owned by it?
Christine has qualifying shares in her company but also separately owns the factory site used by it. Entrepreneurs' Relief may be available on disposal of both the shares and the site but this may be restricted if there is a rent being paid to Christine for the company's occupation of the site.
Entrepreneurs' Relief is now extremely valuable and also extremely restrictive. There is great opportunity to maximise the relief and take advantage of other family members' allowance too. There is also great potential to trip up and not qualify at all.
The key is to start planning early so that shares are held in the right way to maximise relief for the 12 months before sale. There may be fixes if this is considered immediately before sale, but the earlier it is looked at the better!
For further information please contact Jim Aveline on 0117 939 2283 or firstname.lastname@example.org