Many businesses have been affected by Covid-19 and many may be considering selling up. But if tax rates change, is now the best time?
The Coronavirus pandemic has had a serious impact on the Treasury’s reserves, by coupling a reduction in tax receipts, with the significant spending on the Furlough Scheme, amongst other government support schemes. Most estimates suggest the pandemic has cost the Treasury hundreds of billions of pounds.
The government is now having to consider how it may balance the books, and eyes are now firmly on the next Budget which is due to be announced on Wednesday 3 March.
A report released by The Office of Tax Simplification last year advised that as part of the Budget, the government should review the operation of capital gains tax (CGT). This had two striking recommendations for the government:
- Aligning CGT rates with Income Tax rates; and
- Replacing Business Asset Disposal Relief (formerly Entrepreneurs’ Relief) with a relief more focused on retirement.
Alignment of CGT and Income Tax Rates
Currently, CGT rates are much lower than Income Tax rates. For individuals with an income of over £50,000 a year, they will pay CGT rates of 20% on any gains realised on any assets they sell (with a rate of 28% where the gain is from the sale of residential property), but this rate can be reduced to 10% if they can claim Business Asset Disposal Relief.
For the same individuals, they pay an Income Tax rate of 40% for any income over this threshold, and 45% for income over £150,000.
Therefore, a business owner who sells their business today may be able to pay as little as 10% on any gains realised. But if the government adopts the OTS’s recommendations, that same business owner could be paying as much as 45% on the same gains.
Replacement of Business Asset Disposal Relief (formerly Entrepreneurs’ Relief)
In March 2020, tax relief for business owners selling their businesses became less generous, as the lifetime limit for claiming Business Asset Disposal Relief was cut from £10 million to £1 million. If the Relief can be claimed, this reduces the rate of CGT payable from 20% to 10%.
However, the OTS has recommended that the government introduce further changes to the Relief in order to boost CGT revenues. These changes would make it harder to claim the Relief by adding in further requirements. For example:
- Increasing the minimum shareholding requirement from 5% to 25%;
- Increasing the time which the shares must have been held from 2 years to 10 years; and
- Re-introducing a minimum age for claiming the Relief, with this being linked to age limits for pensions.
Selling under the current tax regime
We do not know yet whether the government will implement the recommendations.
It is currently still possible for business owners to sell their businesses whilst the current CGT and Business Asset Disposal Relief rules apply but there is an element of uncertainty about the future.
If you are currently considering a sale of your business there are a number of ways in which the sale could be structured all of which take time to plan. Options include:
- A trade sale to an external buyer; or
- A management buyout (MBO), where all or part of the business is sold to the existing management team.
Our Corporate team has in-depth experience in advising sellers on an exit, having completed a number of high value deals over the past 12 months notwithstanding the current pandemic.
An alternative approach: Employee Ownership?
An alternative to a trade sale or MBO would be to transition to Employee Ownership. A business owner can sell a controlling stake in their company to an Employee Ownership Trust (EOT), which does not require any third-party involvement. Currently a sale to an EOT is treated as neither a gain nor a loss for CGT purposes, and therefore means no CGT is payable on the sale proceeds, provided that certain criteria are met.
We have a dedicated team who specialise in Employee Ownership, and who have built on the firm’s own experiences of being an employee-owned business.
Plan your exit carefully
Although the tax rates could be changing, it is important for business owners to consider their options carefully before rushing into a sale. Prospective purchasers will be aware of the proposed changes to CGT, and this may make negotiations tougher where the purchaser perceives that the seller is rushing to sell in order to make a tax saving.
There are also other considerations when selling a business, beyond simply the applicable tax rate:
- What warranties and indemnities will the seller be giving?
- Has the seller had the opportunity to give full disclosure against the warranties?
- How much of the purchase price will be contingent on an earn out?
- What will happen to your staff?
We are here to ensure you achieve the best outcome in these critical areas.
Business owners looking to sell before March will need to be happy that any tax saving they may potentially make outweighs any downside from pushing through a deal quickly.
Our Corporate team has a wealth of experience advising on the sale of regional and national SMEs across a range of business sectors, including healthcare, financial services and leisure and tourism.