Understanding the tax bill when you sell your business
The tax rules and reliefs to be aware of when you’re selling your business, including Entrepreneurs’ Relief (now called Business Asset Disposal Relief).
In recent years, tax has been an important issue for owners who are thinking of selling their business. This is partly because of persistent rumours that the government plans to increase Capital Gains Tax. Selling before any change to the tax rules could allow shareholders to hang on to more of the value they have built.
Thankfully, the feared increase in CGT has not yet happened. But it is still worth keeping tax issues on the agenda when planning a company sale. We introduce some of the key concepts below.
It’s normally better to sell your shares, not your assets
Although it is sometimes necessary to sell the trade and assets of a business, selling the shares instead is typically simpler and more tax efficient.
If your company were to sell its trade and assets, the resulting gains could be subject to corporation tax at 19%. The remaining cash could then be distributed to shareholders. The best way to do this is usually by liquidating the company, which ensures shareholders are liable to Capital Gains Tax (CGT) rather than Income Tax. But this normally results in the sale proceeds being taxed twice – once on the company tax return and once on the shareholders’ income tax returns.
It is also worth noting that if you liquidated your company, there are HMRC rules that might prevent you from starting a similar business without triggering an extra tax charge.
Claiming Entrepreneurs’ Relief (now renamed as Business Asset Disposal Relief)
When you sell your company, you will need to pay Capital Gains Tax on the gain.
Gains from the sale of shares are normally taxed at 20%. But that rate can be reduced to 10% by claiming Business Asset Disposal Relief.
Unfortunately, BADR is much less generous than it used to be. Prior to March 2020 (when it was still known as Entrepreneurs’ Relief) the rules allowed the 10% rate to be applied to the first £10m of an individual’s gain.
Under the newer BADR rules, only the first £1m of gain is eligible for relief, reducing the maximum benefit to £100,000 of tax saved. But that is clearly still an attractive saving, particularly for sellers of smaller businesses. And it may be possible to effectively increase the relief available by, for example, ensuring that a spouse owns part of the company’s share capital.
Are you eligible for Entrepreneurs’ Relief/Business Asset Disposal Relief?
To be able to claim Business Asset Disposal Relief, you need to have owned your company for at least two years before the sale.
Even though it used to be called Entrepreneurs’ Relief, BADR is not just available to a company’s founders. Tax relief can also potentially be claimed by the management team. In simple terms, Business Asset Disposal Relief can usually be claimed by employees or directors who have owned more than 5% of the company’s share capital for at least two years before the transaction takes place.
However, there are various complexities with BADR that mean it is often worth seeking advice from a tax adviser, to make sure there are no surprises when the transaction completes.
The impact of ‘deferred consideration’
Many company sales involve some ‘deferred consideration’, where the buyer holds back part of the purchase price until a later date. For CGT purposes, HMRC is interested in when you became entitled to the proceeds, rather than when you received them. As such, deferred consideration becomes part of your capital gains calculation at the point that the deal completes.
For deferred consideration of a fixed amount (known by HMRC as ‘ascertainable consideration’), 100% of the deferred payment is taxable at the same time as the rest of your proceeds.
When a deferred payment is variable or unpredictable (for example, earnout payments related to your company’s post-sale financial performance), it is considered ‘unascertainable’, but it is still subject to Capital Gains Tax. For the purposes of your CGT calculation, a value will need to be put on the right to receive the future payment, based in part on the estimated probability of receiving the full amount.
In the case of both ascertainable and unascertainable consideration, if the actual payment ends up being different from the amount expected, it will trigger another capital gain or loss. The appropriate treatment of this will depend on your individual circumstances, including the extent of any other capital gains or losses that occur in the relevant tax year.
Tax planning after the sale – mitigating CGT and Inheritance Tax
After successfully selling their companies, many people will work with a financial adviser to work out the most appropriate way to save and invest the sale proceeds. The focus of financial planning should be on achieving the personal goals you have set for yourself and your family. But a financial adviser should also help you to invest tax-efficiently.
Investing into certain types of alternative investment funds could allow you to defer part or all of the Capital Gains Tax liability that resulted from the sale of your business. There are also specialist funds that can potentially shield your proceeds from Inheritance Tax.
However, investments that offer tax benefits often come with a high level of risk. An accountant or financial adviser should be able to help you understand the options and invest your money based on your appetite for risks and reward.
Tax can be complicated…
This article is intended only as a brief introduction to the tax issues that might be relevant when selling your business. Your own tax position will vary based on your personal circumstances and the details of your company sale. We would always recommend you seek professional advice to make sure the tax treatment of your company sale is handled correctly.