The Finance Act 2008, enacted on 21 July 2008, includes a number of changes to the Capital Gains Tax (CGT) regime, which apply from 6 April 2008. The key changes, which include the abolition of Business Asset Taper Relief (BATR) and indexation allowance and the introduction of a flat rate of CGT of 18%, mean that, from that date, the rate of CGT on the disposal of business assets will increase by up to 80% for many taxpayers and by very much more for those taxpayers making relatively small gains.
The new Entrepreneurs’ Relief, the one concession announced by the Chancellor, will reduce the effective rate of tax to 10% on the first £1million of cumulative qualifying gains.
This is clearly a valuable relief for many taxpayers with gains of £1million or less. However, many gains will still be taxed at 18% going forward, with gains themselves potentially higher as a result of the abolition of indexation allowance.
Entrepreneurs’ Relief
This new relief takes effect from 6 April 2008, and means that an effective CGT rate of 10% will apply to up to £1 million of gains made on the disposal of trading businesses carried on by individuals (or trustees) alone or in partnership, of shares in qualifying unquoted trading companies and of assets used in such trades. The £1 million is a lifetime limit, but it may be increased in later Finance Acts. ‘Trading’ has exactly the same meaning for Entrepreneurs’ Relief as it has for BATR, but several new features have been introduced, some good, some bad.
Firstly, some bad news: the definition of a qualifying company has been narrowed. It will now be necessary for the individual to be an officer or employee of the company and to hold at least 5% of the equity and of the voting rights in it throughout a period of one year. This will exclude many business angels and venture capitalists and most AIM investors. Generally, the one-year period is that ending on the date of disposal (but see below regarding cessation of business). It will therefore be very important to pay careful attention to the timing of any sale – and the date of sale for tax purposes is not always as might be expected.
Associated Disposals
Whether relief is available on the disposal of assets owned personally and used in a business, depends on whether the business is being disposed of or is ceasing.
Where a qualifying business carried on alone or in partnership ceases, or a qualifying company ceases to trade, relief on the disposal of the asset is still available if the conditions are satisfied throughout the one year period up to the date of cessation, and the sale of the asset takes place within 3 years of that date.
Where an asset owned personally is used by an unquoted trading company it will qualify for Entrepreneurs’ Relief if it is disposed of by an individual at the same time as shares in that company are disposed of by the same individual, and the new relief applies to that share disposal. HM Revenue & Customs has confirmed that not all of the shares need to be disposed of, so long as the conditions for relief are met. Note, however, the associated disposal must take place as part of the shareholder’s withdrawal from participation in the business carried on by the company.
A sole trader cannot get Entrepreneurs’ Relief on the disposal of an asset owned personally and used in the business which is being disposed of, unless the asset is regarded as part of the business being sold as a going concern.
The solution for sole traders planning to sell an asset separately from the business might be to transfer the business to a Limited Liability Partnership (LLP), with the trader owning 99% and his/her spouse (say) owning 1%. After 1 year, the business could be sold. As the LLP will cease at the time of sale, the relief should be due on the sale of the asset as above. Alternatively, full incorporation may be appropriate with the share sale after 12 months.
Trustees can also claim Entrepreneurs’ Relief, but only if a qualifying beneficiary has a qualifying interest in the business in question. Fairly complicated definitions apply to this, but at least there is clarity. The trustees and beneficiary must make a joint claim and any relief obtained by the trustees will reduce the individual’s lifetime limit of £1 million.
Loan notes
Where an individual has deferred a gain into a qualifying corporate bond (QCB) (i.e. the gain is deferred until the disposal of the QCB), the disposal of that QCB after 6 April 2008 may qualify for Entrepreneurs’ Relief. We understand that the relief will be available on the redemption or disposal of QCBs from 6 April 2008, provided the original disposal would have met the conditions for the relief to apply (see above).
If, after 6 April 2008, shares are exchanged for standard loan notes, which are generally QCBs, the gain frozen into the QCB will be calculated after any Entrepreneurs’ Relief that would have been available at that time. Where shares in the target company are exchanged for shares in the acquiring company or for non-QCBs, issued by the acquiring company, legislation usually deems there to be no disposal of the old shares and for the new shares/securities to be treated as having been acquired at the same time and for the same price as the old shares.
Entrepreneurs’ Relief might not be available on a sale of the new shares/securities because the necessary conditions are not satisfied – the 5% test, the employer/officer test or the trading company test. The new rules allow the individual to elect to pay the tax at the time of the sale of the old shares and hence become entitled to the new relief if the necessary conditions are satisfied at that time. Whilst this means tax is paid earlier, the amount may be substantially lower.
Domicile and Residence Issues
Substantial changes to the UK tax rules for non-UK domiciled, UK resident individuals, have been announced and took effect from 6 April 2008. These changes will impact on both income tax and capital gains tax, and must be considered in detail.
One key issue will be that of stockpiled gains. Recipients of capital payments under the offshore trust regime (stockpiled gains) will pay CGT at an effective rate of no more than 28.8% from 6 April 2008 (currently 64%).
Act Now
It is essential that you seek appropriate professional advice now to understand how the changes will affect you and to take any action necessary to maximise the reliefs and allowances available to you now and in the future.
Please contact Paul Belsman or Brian Williams for further information, or enter your details and submit the online form below.