I went to a Watford Chamber of Commerce breakfast the other day at which the speaker was David Gauke, MP for South West Herts and Exchequer Secretary to the Treasury. During questions he said he would love people to promote more awareness of various incentives which make the UK a very attractive place for entrepreneurs, and specifically the attractive tax incentives such as relatively low tax rates, Entrepreneurs’ Relief, the Enterprise Management Incentive Scheme, the Enterprise Investment Scheme and the Seed Enterprise Investment Scheme all of which are designed to encourage investment in SMEs, on which the resurrection of our economy depends.
To oblige I am writing a series of short (for me) articles which will hopefully help to enlighten some of you on some of these schemes. [author’s note several years later: I never managed to get round to the next one!]
Starting with this one about Entrepreneurs’ Relief:
[author’s note: some of the detail on this will go out of date pretty quickly, as future budgets tinker with the the rules]
Back in the day, there used to be something called Retirement Relief. When people retired and sold their businesses the relief meant they did not have to pay the full rate of capital gains tax. In 1998 or so this was replaced by something called taper relief. Sort of similar benefits, but worked out in different ways. Since 2008/9, recognising that we are now a nation of entrepreneurs, and indeed often serial entrepreneurs, rather than of people who spend a lifetime building a business and then retiring, we have had something called Entrepreneurs Relief. This is a bit more similar to the original Retirement Relief.
What does it do?
In short, it gives you an effective CGT rate of 10% on qualifying gains. This means that you can stand to gain a tax saving of up to £1.8 million where you sell your business for over £10 million and would otherwise have had to pay the upper CGT band rate of 28%.
The relief has been made more and more attractive in recent years. When it started it applied to the first £1 million of qualifying gains. This later doubled to £2 million, and later to £5 million, and again from 6 April 2011 to the present £10 million.
It’s also a lifetime thing so you can use it for several disposals until you reach the limit.
When does it apply?
It can apply when:
- You sell shares in your company, provided that:
- The company is a ‘trading company’ (or trading group parent) (so, it mustn’t for example have too much in property investments or unnecessary cash)
- You have been a director or employee for the year prior to the disposal
- You hold at least 5% of the ordinary share capital and can exercise at least 5% of the voting rights (yes, they’re not necessarily the same thing)
- If you have acquired your shares under Enterprise Management Scheme share options any time after 6 April 2012, you will not need to have as much as 5% of the shares. But you will still need to have your shares for a year (so, 6 April 2013 will be the earliest date for any such disposal), which can be a problem.
- You sell your sole trader or partnership business as a going concern, so long as you have owned it or been a partner for over a year.
- You sell something you own which is used by a company or business which you are withdrawing from. Examples might be where you have been licensing business premises or IPR to your company.
- You don’t sell your business, but close it down and sell the business assets within 3 years.
What happens if the consideration is deferred?
This raises difficult questions. Do you choose to pay your tax now at 10% with entrepreneurs’ relief? Or do you ask for a loan note from the buyer (a technically worded type of loan agreement – basically you are treated as having made a loan to the buyer for the amount of the deferred consideration). If you get a loan note, you may be able to roll over paying any tax on the gain until your ‘loan’ is repaid. The longer the delay, the more value you’ve had from delaying the tax. BUT, you would have lost the opportunity to claim entrepreneurs’ relief unless (which is usually not likely to be the case) you hold 5% of the ordinary shares in the buyer, and are and can be sure you will remain a director or employee of the buyer.
So, it might be best to elect to be taxed as though the disposal took place on completion, when you can claim entrepreneurs’ relief, even though you may have to pay your 10% tax (by 31 January following the year of completion) well before you actually get the money which you are paying tax on.
If you are going to have the requisite 5% shareholding and employment/directorship in the buyer, and if you want to roll over the gain into a loan note and delay the entrepreneurs’ relief claim, then in order to qualify you need to ensure that the loan note is dressed up as a ‘non-qualifying corporate bond’ (non-QCB) as opposed to a ‘qualifying corporate bond’ (QCB). (Another reason for taking a non-QCB rather than a QCB is that if you take a QCB and the buyer goes bust you might not be able to get any of your tax back even though you never received the consideration it related to!) And that’s all I’m going to say on the subject. It’s all very technical and, to me, artificial and makes me realise why I could never be an accountant. You must use an appropriately qualified accountant. However, I can help you draft what you or your accountant may want in order to achieve your objectives. (Foreign currency redemption clause, anybody, just to turn it into a non-QCB? With collars and caps thrown in? Luckily I have all the leading edge precedents to work with!)
Things can be even more complicated if you are on an earn-out so do not know what the final consideration will be.
What happens if the consideration takes the form of shares in the buyer?
Similarly, as part of your consideration you could take shares in the buyer company and roll over your gain into these shares and claim entrepreneurs’ relief when you sell them. But again, your shareholding will need to be at least 5%, and you will need to become a director or employee in the buyer’s group – not always feasible. But a share consideration deal also begs a lot of questions, not least of which is: what makes you think you will be able to sell your new shares at any price any time in the future? (See my note on shareholders agreement and the like)
Disclaimer and conclusion
This has been a very short run-through. I’ve hardly begun to start on all the detailed provisions and permutations that could apply. And I wouldn’t want to. I don’t like tax! I don’t claim to give tax advice. This is accountant territory, they like this sort of thing, and you must always use an appropriately specialist accountant. Because of all the planning that could be involved, you should always see your accountant sooner rather than later, ideally years before you think you might be selling.
An accountant would also make sure you actually apply for entrepreneurs’ relief. If you don’t apply for it in time, you don’t get it!
But I do try to know enough about tax to know when there might be an issue and to flag it for attention. Generally, my involvement in the tax side of things is in working on the instructions of clients and their accountants to ensure that the deal structure and documentation satisfies any tax-related requirements. Occasionally I need to inject some commercial perspective to ensure that the tax tail doesn’t wag the commercial dog which I am primarily concerned with. It’s the commercial dog which I know more about!