The Different Tax Considerations You Should Make When Selling a Business

If you’re planning on a selling a business, it’s important that you keep all the various tax considerations in mind. While your exit planning will depend largely on the type of company you have, there are some common themes if you are:

• Ceasing business
• Selling your business on the open market
• Arranging a management buy-out
• Making a gift of your business

With the above in mind, at Newnham & Son, we would like to share various planning points for all four of these scenarios with the help of some examples.

Minimising Capital Gains Tax (CGT)

The biggest challenge owners face when selling a business in Hampshire and the UK, in general, is minimizing the CGT impact of doing so. Normally, you will have to pay CGT when you dispose of any capital asset. This can include everything from shares in a company to goodwill in a business as long as they have a higher value at sale than at acquisition.

But, the real question when CGT planning is: Will entrepreneurs’ relief be available when you sell your business? Typically, the tax rate on entrepreneurs’ relief is 10% on the first £10 million of gains per person, per lifetime. However, without the benefit of entrepreneurs’ relief, you would have to pay 20% tax.

Four Case Studies Highlighting the Planning Issues of Selling a Business

Because we know that CGT and entrepreneurs’ relief can be complicated, we’ve created these examples to shine the spotlight on the do’s and don’ts of exit planning. Here it goes:

1. The Three Year Rule

John has run Doe Ltd for the entirety of his working life. Because of changes in the market and technological advancements, the company is no longer making money. Through this company, he has a significant cash pile that he stored to avoid paying dividends with high tax rates.

With this cash, he bought a block of flats on April 1, 2019, that he lets to tenants. Over time, the profits from his rental properties exceed the profits of Doe Ltd. Because of this, Doe Ltd. is no longer a ‘trading company’, one of the main requirements if John wants to benefit from entrepreneurs’ relief when selling his business.

Luckily for him, there is a three-year period between the time at which a company no longer qualifies as a trading company and gain on disposal of its shares qualifying for entrepreneurs’ relief. With this in mind, as long as John liquidates Doe Ltd. before April 1, 2022, he will qualify for the 10% tax rate.

2. The Sale of Company Shares

In this example, John believes in sharing the wealth of his company. As a result, he owns 75% of the business itself and his wife owns 21% but isn’t part of the company (i.e. she’s not part of the management team and doesn’t act as a director). He also gave his senior manager, Jack, 4% of the shares of the company.

In 2019, he receives an offer of £10 million for his shares. Unfortunately, his accountant tells him that Jane and Jack’s shares won’t qualify for entrepreneurs’ relief. For Jack, this is normal as he doesn’t have shares of more than 20%. However, the reason Jane doesn’t qualify for property relief is that she doesn’t meet the other essential criterion. I.e. She has never been an employee or officer of the company.

It’s worth mentioning that while John could have simply appointed Jane as a Director of the company, she would have had to have held this position for at least two years to qualify for entrepreneurs’ relief.

3. Vendor-Initiated MBO (VIMBO)

VIMBO is a great way to organise a management buy-out in the most tax-efficient way possible. In this instance, the managers who want to buy the company will set up their own company. They will then acquire your business in exchange for ‘paper’. These include shares and loan notes.

The idea is that the managers will pay for the business from its own profits under the management of the new owners. The key, however, when selling a business like this, is to ensure that the cash amounts qualify for entrepreneurs’ relief. This is something that the vendor needs to clearly outline in the sale agreement.

4. Gifting a Company That Deals in Shares or Property

For example four, John retired a few years ago. He now has two sources of income. The first one is an investment property which brings him $60,000 in rental income per year. The second one is the shares in a trading company which also pays him about £60,000 a year in dividends even though his son, Jack, now runs the business.

Recently, specialists valued both these assets and estimated them at about £1 million. But, in addition to both of these forms of income, John also has a pension. That said, he only needs one lot of £60,000 to live a comfortable life. In this instance, you would think the best thing to do would be to give the shares in the investment company to Jack.

However, there are some considerable advantages of gifting him the investment property instead. This is because the current law states that the shares in an investment company qualify for 100% business property relief. By keeping these shares, he continues to earn an income in retirement. Also by giving Jack the investment property, he reduces the taxable value of his estate by £1 million.

Get Help From Your Local Petersfield Accountant

As you can see the best exit plan depends entirely on your individual circumstances. As a result, it’s essential that you hire professional help when selling a business. Luckily, at Newnham & Son, we have extensive experience advising clients on business tax in the UK. To find out more about our services and how we may be able to help you, contact us today.