Gaining Business Asset Disposal Relief on liquidated company assets

Business Asset Disposal Relief, formerly Entrepreneurs‘ Relief

Business Asset Disposal Relief (BADR), renamed from Entrepreneurs’ Relief (ER) and updated in the Finance Act 2020 reduces the rate of capital gains tax (CGT) on disposals of certain business assets from 20% to 10%.

The change in name of the scheme came into effect on 6 April 2020.

Most business owners and entrepreneurs need to invest considerable time, energy and often money into their companies to achieve success, and anyone who is able to build a viable, profit-making business deserves to be able to enjoy the rewards. But when it comes to closing a company down and accessing the financial assets, the process can be complex – and may carry a taxation sting in the tail.

When closing down a limited company, the final distribution of funds can be treated as either an income distribution or a capital distribution. The distinction is important, and a capital gain is usually preferable to dividend treatment. A higher rate taxpayer could find themselves paying 32.5% on the dividend, while a basic rate taxpayer will pay tax on the dividend at 7.5%. This compares with a capital gains tax paid on a capital distribution of 10% and / or 20% (for higher rate taxpayers) – and if the gain qualifies for BADR, the balance is taxed at just 10%. So, for example, a higher rate taxpaying shareholder receiving £100,000 on the liquidation of his company would pay £32,500 if taxed as a dividend, but would face a capital gains tax bill of just £10,000 if BADR is available.

Ensuring funds are treated as capital distribution

One route, which has (until recently) ensured that any funds to be distributed from a business you are closing down are treated as capital, has been to do a formal liquidation of the company, known as a ‘members voluntary liquidation’ or MVL.

To complete an MVL, the shareholders of a solvent company must adopt a voluntary winding up resolution, and appoint a liquidator to realise the assets of the business, with the proceeds distributed to company members. Alternatively certain assets of the business may be distributed to the members. A company is considered to be solvent when it can meet all of its financial obligations, and when the value of its assets exceeds the sum of all its debts and liabilities.

The amount that can be saved by distributing funds as capital rather than income are usually significantly greater than the costs of the liquidator’s fees involved in completing an MVL.

However, it’s important to be aware of new ‘anti-avoidance’ regulations brought in last year, designed mainly to target ‘phoenix’ businesses – where one company is closed, and shortly afterwards a similar company is formed by the same individual doing the same work. Under these rules, if a person who received a capital distribution from a closing company launches a similar trade or activity (whether as a company, sole trader, in partnership) within two years of receiving the funds, then those funds will retrospectively be treated as income rather than capital.

Other areas covered by the new rules included capital reduction schemes, particularly where the capital has been reduced to below £25,000 (at which point no formal liquidation is required).

What is ‘Moneyboxing’?

Furthermore, the Government are currently reviewing the position where a trading company contains a large cash balance, particularly where this has been done to avoid paying income tax on taking salary or dividends with a view to claiming BADR and paying just 10% tax. This is known as ‘moneyboxing’ .

So it’s important to take expert advice about entering into an MVL well in advance, and to take into consideration your long-term business plans.

What is Business Asset Disposal Relief, and will I qualify?

If you opt to close your business down through an MVL, and the monies within the business are paid out via capital distribution, under normal circumstances you will have to pay capital gains tax on the money distributed, at a rate of either 10%, or 20% for higher rate taxpayers. However, you may be able to claim BADR on the disposal of business assets or shares in your personal company, provided that you meet the relevant qualifying conditions, and have done so for at least 12 months – reducing your tax burden to a flat 10%.

For a company to be considered a personal company you must hold at least 5% of the ordinary share capital, and those shares must give you at least 5% of the voting rights in the Company.

To qualify for BADR, the main condition is that you must have owned the business directly or it must have been owned by a partnership in which you are a member, and the company must have been trading for the year leading up to the date it ceased trading. Any assets must also be distributed within three years of that date.

The process is also relatively simple. Once a company is placed into MVL, the liquidator will make a capital distribution to shareholders, who can then make a claim on their personal tax return for the funds that are received (or the value of assets that are received) to be taxed at a rate of 10%. A claim for BADR won’t have any impact on your Annual Exemption, which will further reduce the tax payable.

It’s clear that as a route to access assets in a company that you a wishing to close down, MVL and BADR is a tax-efficient pathway to go down. However, not all companies can enter an MVL, and there may be other BADR qualifying issues to consider if the disposal or closure of the business is not so straightforward. So as always, it’s important to seek expert advice as early in the process as possible.

This post was written by Michael Morter from the Private Client Tax team. For more information or for further help you can contact Michael using the form below.

We always recommend that you seek advice from a suitably qualified adviser before taking any action. The information in this article only serves as a guide and no responsibility for loss occasioned by any person acting or refraining from action as a result of this material can be accepted by the authors or the firm.

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