Why the OTS Business Lifecycle Report raises concerns around Entrepreneurs’ Relief
18 July 2018
The Office of Tax Simplifications is very busy these days, says Prudential’s Graeme Robb. Learn about its recent Business Lifecycle Report and why the OTS has concerns about Entrepreneurs’ Relief.
Last month, Liz Hardie explored the consultation issued by the Office of Tax Simplification (OTS) regarding potential simplification of the inheritance tax (IHT) regime.
That consultation has now closed and we will need to wait until Autumn when the OTS publishes its Report. It’s fair to say that this exercise has received widespread publicity. Likewise, a recent OTS paper exploring how the taxation of savings income can be simplified will also create headlines.
In the meantime however, I would like to draw your attention to another OTS Report issued mid-April which has largely fallen under the radar – The OTS Business Lifecycle Report.
Business Lifecycle Report
This considers key events in the lifecycle of a business
The focus is on businesses owned by individuals and families and on events that affect business owners. What’s useful I think, is that it serves as a useful reminder of the tax charges & reliefs that apply to certain business events impacting some of your clients. With that in mind, let’s consider the final two topics – succession and disposal.
Succession (passing on a business)
This relates to transferring a business (i.e. not a sale at market value) typically to family members. These transfers will potentially give rise to capital gains tax (CGT) and IHT implications.
Lifetime transfers – CGT
Where the transferor and the recipient are connected persons or the transfer is a gift, the disposal and acquisition is deemed to be made at market value. The following CGT reliefs are potentially available.
Lifetime transfers – IHT
Gifts of a business, or of shares in a company, to an individual will be potentially exempt transfers (PETs). If the transferor dies within seven years of making the gift, the PET is no longer exempt and IHT may then become due depending on the circumstances. However, in those circumstances relief for business property (BPR) or agricultural property (APR) can still be claimed if certain conditions are met.
With regard to trusts, a transfer into a flexible trust is not a PET and will be immediately chargeable, subject to the IHT NRB, although BPR and APR may be claimable if the necessary conditions are satisfied.
Transfers on death – CGT
CGT is relatively simple – assets are deemed to transfer to personal representatives, and in turn to those inheriting them, at their market value at the date of death. The deceased does not therefore make a CGT disposal.
Transfers on death – IHT
The death estate plus any chargeable lifetime transfers made in the seven years before death is taxed at 40% above the NRB. The value of ‘business’ assets will be reduced by BPR or APR as appropriate. Typically at 100% or sometimes at 50%.
BPR is considered here.
On the subject of succession, the two most important observations from the OTS are as follows
Disposal or cessation of a business.
The disposal will generally fall into one of the following categories:
With regard to a) above, whether the sale is of business assets in an unincorporated business or shares in a company then CGT consequences arise. A number of reliefs can apply to reduce the tax payable
Regarding c) above, where the owners of an unincorporated business simply cease to trade then any assets of the business belong to the owner. The disposal of those business assets will give rise to CGT. However, if the disposal is within three years after cessation, the resulting capital gains will qualify for ER, subject to satisfying the other conditions for the relief to apply.
Category d) often causes confusion.
When disposing of a business owned by a company, which is in turn owned by individuals, a decision must be made whether
If the decision is taken that the company should sell the assets, any gains on the assets disposed of (whether by sale, or by distribution to the shareholders) are subject to corporation tax within the company, without any tax relief.
A subsequent winding up of the company will involve distributing the company’s cash or remaining assets to the shareholders. This is treated as a disposal of the shares which potentially gives rise to a shareholder capital gain. Such gains will qualify for ER if the qualifying conditions are met.
Accordingly, there is a double charge to tax, one in the company and one on the shareholders. Only the latter can be relieved, by ER.
On the subject of disposal or cessation, two key observations from the OTS are as follows:
The OTS consider there is a pressing need to undertake a detailed review of the complex patchwork of tax charges and reliefs applying at various points in the business lifecycle. Views from interested parties are welcomed and the next stage is then likely to involve some of these areas being considered in more depth.
We will keep you posted on developments.