Changes to Entrepreneurs’ ReliefFeb. 19, 2019, 12:01pm
Entrepreneurs’ Relief (ER) is a significant tax relief available on the disposal of a business. ER gives access to a 10% rate of capital gains tax, subject to a lifetime limit of £10 million.
In Budget 2018 the Chancellor announced some additional conditions that must be met in order to obtain ER. Some of these conditions have already come into effect and some come into effect from 6 April 2019. The changes mean even closer attention to the rules is needed to ensure eligibility.
What is ER?
ER is potentially available to company shareholders, owners of unincorporated businesses and trustees.
For company shareholders, ER applies to gains on disposals of shares and securities in a ‘trading’ company, or the holding company of a trading group.
For owners of, or partners in, unincorporated trading businesses ER applies to gains on the disposal of a business or part of a business. It can also apply to disposals of assets after a business has ceased to trade.
ER can also potentially apply to assets (such as land and buildings) used by a company but owned by an individual or assets used by a partnership but owned by a partner. The assets disposed of need to be ‘associated’ with the withdrawal of the individual from participation in the company or partnership.
For trustees, ER applies where there has been a disposal of trust assets which are ‘settlement business assets’ (shares and securities in a trading company or assets that have been used for the purpose of a trading business) and an individual is a ‘qualifying beneficiary’ (typically a life tenant).
One of the changes announced in the Budget potentially affects company shareholders and trustees but other changes affect all the above groups.
We have summarised the changes below.
New two-year rule
This change affects all business owners and shareholders. Ownership conditions apply generally throughout the period up to the date of disposal, and to access ER, the period of ownership is critical. The qualifying period was one year, but Budget 2018 extends this to two years for disposals on or after 6 April 2019.
New percentage rules
To qualify for ER, the company needs to be an individual’s ‘personal company’. This means that an individual must throughout the relevant qualifying period:
- be a company employee or office holder
- hold at least 5% of the company’s ordinary share capital and
- be able to exercise at least 5% of the voting rights.
For disposals on or after 29 October 2018, an individual must also satisfy either of the following:
- distribution tests which require the individual, by virtue of that holding, to be entitled to at least 5% of the company’s profits available for distribution to ‘equity holders’ and 5% of the assets available for distribution to ‘equity holders’ in a winding up; or
- a proceeds test which requires the individual, in the event of a disposal of the whole of the ordinary share capital of the company, to be beneficially entitled to at least 5% of the proceeds.
In the distribution tests the term ‘equity holders’ is a wider definition than ordinary share capital. As a consequence, the tax profession raised concerns about the wide ranging impact of these tests and, as a result, the government introduced the alternative proceeds test.
In the proceeds test, the 5% threshold is computed by reference to the market value of the company at the end of the qualifying period. That may mean, in situations where the new distribution tests are not met, it may not be known until the disposal of shares whether ER will be available.
For trustees who are company shareholders, the qualifying beneficiary of the trust, needs to be an individual who would have met the above tests if he had owned the shares.
How we can help?
Please note that if your shareholding does not now qualify under the new distribution tests and your shareholding may not qualify under the new 5% proceeds test, that will mean your qualifying ownership period has come to an end and will not restart until the shareholdings are changed.
If you are in any doubt about these changes, please do not hesitate to contact us. We can then discuss with you what action needs to be taken, if any, to ensure that ER will be available on a future disposal.