10% tax on a business sale? Budget introduces uncertainty

Business owners could be forgiven for assuming they will qualify for Entrepreneurs’ Relief on the sale of their business, and benefit from the low rate of Capital Gains Tax of 10%. However, changes announced in the Budget last week could have a severe impact on the rate of tax paid and result in double the amount of tax expected for some disposals. 

Previously, individuals selling shares in their personal company would qualify for Entrepreneurs’ Relief providing they had at least 5% of the ordinary share capital which entitled them to at least 5% of the voting rights. This condition had to be met 12 months before a sale, as well as the individual being an employee or office holder and the company in question being a trading company. 

From 29^th October 2018, changes announced in the Budget have resulted in some shareholders failing to qualify for ER at all. The increase in the qualifying time period from 12 months to 24 months has been well documented and was the main change announced by Philip Hammond in his speech.  However, buried in the detail were some changes which introduce uncertainty for many shareholders. 

The draft legislation introduces a further change, such that shareholders must also be beneficially entitled to 5% of the profits available for distribution and 5% of the net assets on a winding up.  Whilst these appear innocuous at first glance, the concern is that companies with different classes of shares may not meet the new condition relating to profits available for distribution.  

For example, a company with A ordinary and B ordinary shares may be able to declare a dividend to the holders of the A shares, to the exclusion of the B shares, or vice versa.  The concern is that neither class of share is beneficially entitled to 5% of the profits available for distribution, since they have no entitlement to share in a dividend unless it is declared on their class, and therefore the conditions for Entrepreneurs’ Relief cannot be met. 

This will be a major cause for concern for business owners considering selling their shares in the near future, as the result could be that the rate of Capital Gains Tax increases from 10% to 20%, doubling the amount of tax due on a share sale.  It is not evident that this was the intention of the new requirements, and it is being raised with HMRC and we hope that there will be some clarity before the legislation is finalised.

Business owners should seek advice well in advance before entering into a sale process as a result of these changes.

We will be discussing this further, including any updates from HMRC in respect of this, at our Exit Planning Seminar, which is being held at Advanced Manufacturing Park, Brunel Way, Catcliffe, Rotherham S60 5WG on Friday 30^th November, from 08.00.  To book your place at the seminar, click here.