Since the decision was taken to push the Budget back to autumn, we’ve come to expect the Spring Statement to contain little news regarding taxes. In 2018, this was largely the case – though there was an important announcement regarding Entrepreneurs’ Relief.
The government revealed plans to consult on proposals first mentioned in the 2017 Budget, which relate to extending provisions for Entrepreneurs’ Relief. There had been concerns that bringing external investors into a company (particularly a family business) could reduce the founders’ shares below 5 – the limit required to be eligible for Entrepreneurs’ Relief. Specifically, the government felt that this could prevent entrepreneurs and businesses from seeking external funding, and could therefore negatively impact on growth.
In order to tackle these concerns and to continue to encourage growth, the government recently announced a consultation. The aim is to review whether ER still meets its original objectives, and explore ways in which individuals may retain their right to claim the relief beyond the scope of the original qualifying conditions. The consultation closes in mid-May.
What is Entrepreneurs’ Relief?
First introduced in 2008, Entrepreneurs’ Relief is – in essence – a special relief against capital gains tax. This allows entrepreneurs to sell qualifying shares in a business and pay a lower rate of tax (just 10 when compared to an average rate of 20 ).
In order to qualify, the individual must meet certain conditions. Among these conditions is a stipulation that the individual must hold a qualifying interest; which means that, during the year leading up to disposal of the shares, they must be an employee/officer of the company, and must hold a minimum of 5 of the ordinary share capital (plus voting rights).
This stipulation can be tricky to manage, however: because if a company has been working to attract investors, a process which often involves the issue of new share capital, it’s easier than one might think for shareholders to see their stake fall below 5 . And, should this occur, they’d lose their ability to claim ER when exiting the company. Whilst this would be an unfortunate turn of events for a founding member of a company who was planning on leaving with a substantial profit, the government is more concerned that the loss of relief could in fact make it prohibitive for companies to seek external funding – or could lead to entrepreneurs closing their companies earlier than planned – therefore potentially hampering growth and innovation in the business sector.
Proposed Changes to Relief for Entrepreneurs
In the consultation document, the government outlines proposals for shareholders to be able to ‘bank’ their allotted relief before new shares are issued that would dilute their own interest in the company; i.e., they would elect to be treated as if they were disposing of their shares before their stake falls below 5 , and the tax payable would be deferred until such time as they decide to actually sell the shares.
This does not allow for gains in value, however; if individuals choose to bank their relief, any subsequent growth in share value will be subject to capital gains tax at the normal rate. Moreover, the new rules would also exclude any claims to do with asset disposal – if the shareholder owned a property used in the course of trade, for example, and then decided to sell the premises. Even if the shareholder had elected to bank their Entrepreneurs’ Relief, they would not be able to apply this to disposal of the asset at a future juncture.
Finally, in order to qualify for the relief, the company would need to be formally committed to acquiring funding via share issue. As the consultation document puts it: ‘It will be a condition for election that the issue of shares by the company be part of a commercial scheme or arrangement which has as its main purpose, or one of its main purposes, the obtaining of capital as new consideration subscribed for the issue of new shares.’
If the proposed changes are accepted and adopted, this extension to Entrepreneurs’ Relief will come into effect from April 6th 2019. Do keep an eye on the IBISS & Co blog for more news or feel free to contact us if these changes might affect you; we are committed to remaining ahead of the curve when it comes to new tax legislation, and will update our clients accordingly.