News

2016 brings a number of planned tax changes for owners of small companies, which will be viewed by many entrepreneurs as continuing an 'anti-business' trend in recent budgets. Further to the changes in reliefs available on incorporation, and the removal of tax relief for amortisation of goodwill, the planned changes to availability of entrepreneurs' relief and dividend taxation will lead to many small business owners paying significantly more tax.

The dividend tax changes have been well documented; however changes to entrepreneurs' relief are less well publicised and this article looks at these proposed changes and their potential impact for business owners.

Background

Entrepreneurs’ relief has been an exceptionally popular relief with business owners since its introduction in 2008, and enables business owners to pay 10% on the capital gains from the sale of their investment in the business, provided certain conditions are met.

In recent years HMRC has taken a number of steps to restrict the availability of capital gains tax treatment and entrepreneurs’ relief to shareholders of limited companies. On 1 March 2012, the withdrawal of Extra Statutory Concession C16 meant that the payment of capital outside of a formal liquidation process was subject to a cap of £25,000. If the payment of capital was above that level, the distribution was treated as dividend income rather than a capital gain. This led many entrepreneurs to consider a Members Voluntary Liquidation (MVL) as a means of securing the shareholder value as a capital distribution.

What is proposed?

There are two changes which are proposed to be introduced in April 2016 which have the potential to treat distributions from Members Voluntary Liquidations as dividend income, leading to an increase in the effective tax rate from 10% to up to 38%. While HMRC is expected to target what it considers as abusive processes, it is unclear to what extent entrepreneurs’ relief will continue to be available for distributions from MVLs after 5 April 2016.

The first change is to introduce a Targeted Anti-Avoidance Rule (TAAR) by amending ITTOIA 2005. The TAAR will treat a distribution from a winding up as if it were an income distribution for the purpose of Section 1000 CTA 2010 where the following conditions are met:

• 1) An individual who is a shareholder in a close company receives a distribution in respect of shares in a winding up of that company
• 2) Within two years from the date of the distribution, the individual continues to be involved in a similar trade or activity
• 3) The main or one of the main purposes of the winding up is to obtain a tax advantage.

The second change is to amend ITA 2007 to bring distributions from MVLs within the ‘Transactions in Securities’ legislation, which is intended to tax what would otherwise be capital gains under income tax rules. In practice, this may mean that HMRC clearance will be required in order for shareholders to gain confirmation that distributions from MVLs will be taxed as capital gains.

Who will be affected?

All shareholders in companies are potentially affected. In particular, shareholders in companies with significant cash reserves, or those planning to sell their businesses in the foreseeable future, are most likely to be directly affected.

What can be done to mitigate the impact?

Shareholders should review their financial position and strategic plans with their tax advisors to see whether any planning should be put in place before 5 April 2016 to mitigate the potential tax increases. In particular, shareholders in companies which have sold their trading operations and have significant cash reserves should seek advice on whether the company should be formally liquidated before 5 April 2016.

If you have any questions, please contact Leona Leonard, Head of Tax Planning.