Entrepreneurs tax relief : conditions and calculations

Learn how you could use Entrepreneurs’ relief to reduce your capital gains tax when selling your business or business assets.

Background

According to the latest surveys, over 90% of startups will fail on the market.

Getting a business up and running, ensuring it grows in levels of success is a tricky business and not everyone will reach the heights they hoped for.

Many entrepreneurs strive for greatness but ultimately decide to sell their brand instead.

You can make a good profit from selling an established brand, even when it hasn’t become a household name and selling a company, in general, can lead to great fortune.

Heavy tax can hurt profits

However, heavy tax can hurt your profitability levels, and that’s why you want to explore entrepreneurs relief.

Entrepreneurs tax relief will be useful for anyone who decides to sell their company or brand rather than continuing their attempts to make it successful.

When you do this, you want to make sure that you pay a lower level of tax on the sale and that’s exactly what will happen if you claim entrepreneurs’ relief.

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Capital gains tax and Entrepreneurs relief

Since April 2008 Entrepreneurs’ relief diminished the capital gains tax for business assets.

It was decreased to 18%, and this impacted all gains from the sale of a business.

However, this was determined by the threshold limit reached by the company.

Entrepreneurs at the typical threshold for capital gains were able to pay a rate of 18%.

On the other hands, those reaching the higher rate thresholds needed to pay 28%.

This reduction was designed by the government to encourage entrepreneurial activity.

Ultimately, it was intended to ensure that individuals would take a chance on their business and not be put off by a heavy capital gains tax if they did need to sell at any point in the future.

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UK entrepreneurial culture

It was hoped this would ensure an entrepreneurial culture in the UK and push economic growth further than before.

This has been seen to be highly successful, and the success caused the government to provide even further incentives.

The capital gains tax is now at 10% for lifetime capital gains with a limit of £5 million.

It’s incredibly useful for entrepreneurs who have modest enterprises that they are hoping to sell or who are considering retiring.

This form of relief is available to sole traders, partnerships, company directors and employees holding shares.

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Criteria for entrepreneurs relief

There are various conditions that must be met before you can gain Entrepreneurs relief.

These conditions must be met through a qualifying period which is a total of one year.

The qualifying period ends when the business stops or the asset is disposed of.

It can be claimed by individuals or the qualifying beneficiary and the trustees together.

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So what is the criteria?

First, the business must end completely.

You can not claim relief on the disposal of assets for a business that will continue.

The only exception to this is if you are disposing of a specific part or section of the business.

You might be a related party to a close company to which the assets are being disposed.

Close company refers to a business that is controlled by less than five shareholders or directors.

You will be a related part if you or a family member are participating in that business.

If that’s the case, then you will not be able to get relief from any gain on the goodwill of those assets.

You do need to be the owner of the business directly or a partner in the ownership for the business throughout the full qualifying period.

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Material disposal of business assets

As well as this, the date the business cease needs to be within 3 years of the disposal.

This is referred to as the material disposal of business assets.

Disposal of shares

Alternatively, there can be a disposal of shares in the company or securities.

In this case, the company needs to be a personal company owned by the qualifying beneficiary.

Or, the qualifying beneficiary needs to have been an employee or officer.

If you are an employee or a director, you must have more than 5% of the shares within the business.

If the entire shares capital for a particular company is owned by a trust, it will not be suitable for relief.

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Associated material disposal

There may also be a disposal associated with a material disposal that qualifies for relief.

This could be a specific part of a trading business, but once again, the individual must have owned the business or been in a partnership for at least one year or the qualifying period.

An associated material disposal must have been used through the qualifying period and the individual must make a material disposal of all or part of their interest in their personal trading company.

As you can see, the conditions that need to be met for entrepreneurs’ relief are quite complex.

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Disposal of a property

For instance, you might be completing the disposal of a property.

To qualify for relief, this needs to relate to the whole or a specific part of the business.

So, if you own a business and you choose to sell some land, this will not qualify for relief unless of course, it relates specifically to part of your company.

You could be selling land that you own as a farmer.

This will not qualify for entrepreneurs’ relief unless it is part of your business premises.

If that’s the case, it’s possible this could qualify if the other conditions are met.

Currently, the maximum an individual can receive through this form of relief is £10 million.

Any entrepreneur giving away their company will be entitled to this level of payment.

This is actually quite a staggering rise as in 2010, the relief was only £2 million.

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How to claim Entrepreneurs relief

You can claim entrepreneurs relief by the 31st January after the tax year during which the disposal took place.

You should submit any gains from the assets sold with your tax return for that year.

You can report and thus claim relief by filling in the necessary parts of your tax return.

This includes ticking boxes 20, 26 and 34.

This will be determined by the type of assets, and you can then provide details in the CG2 box.

If you make a claim and the conditions have been satisfied, then the relief level will be calculated.

Gains and Losses

Gains and losses are added for a net figure.

If that net figure is a gain, this provides the level of relief.

This is then chargeable for the 10% capital gains tax rate.

There are issues that you must be aware of when you are claiming entrepreneurs’ relief.

For instance, you might have decided to exchange shares that you once held for business loans in the form of loan notes.

If you intend to sell the loan notes, you might find that these possessions and the sale come with a capital gains tax at a much higher rate compared to the expected 10%.

Shareholders may also struggle with the level of confusion around relief and whether they qualify.

It is crucial to look at recent changes before you apply as a shareholder.

For instance, you might think that to qualify for relief you must be on the payroll and looking at the conditions this certainly seems to be the case.

However, there have been circumstances where an employee has been taken off the payroll within the qualifying period for an unrelated reason.

The employee has then filed for relief on shares held only to be denied by the HMRC but accepted at the appeal level.

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HMRC disputes and cases

Similar cases have seen an appeal proceeding after a rejection by the HMRC due to extenuating services around a previously employed director.

This also brings to light the fact that while your relief claim may be denied by the HMRC, you can proceed to a tribunal case where an appeal can be made.

Ultimately, it could be a significantly long fight to get relief, even where conditions are seemingly met.

This also points to an issue that many have had with the structure of the policy for relief.

There have been various cases where people have not received relief because they have not reached technical requirements built into the policy, even when they have been the owner of shares within the company itself.

Much of the criticism is directed towards the qualifying period where entrepreneurs need to own the business assets.

Individuals who fall short of this often find that their claims are rejected.

Furthermore, it has been suggested that the HMRC do intend to make changes and modifications to the current policy.

It is possible that this will lead to some alterations of the criteria for entrepreneurs relief.

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Proceed with caution

As such, entrepreneurs should always remain cautious when claiming and make sure that they are qualified based on the latest changes.

If you need help with entrepreneurs tax relief, we can assist you.

We can make sure that you get the support you need and proceed through a tricky claim like this the right way.

Remember, it is crucial that you do know you are entitled to this type of relief before you add it to your tax return.

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