HMRC have published further changes to Entrepreneurs’ Relief (ER) in response to consultation with the professional bodies over the changes brought in with the Budget in 2018.
As we noted in our post, HMRC Challenges on Entrepreneurs’ Relief and Dividend Planning – BEWARE, the original changes had the potential to prevent ER from applying in situations where there were different classes of shares with potentially different dividend rights.
The new amendments are designed to combat this, although unfortunately the way in which they are implemented is perhaps not as clear as it could have been.
The changes relate to qualifying as a ‘personal company’ which is one of the requirements for ER to apply on sales of shares. For a company to be the seller’s personal company the shareholder must meet four conditions with regard to their shares:
- hold at least 5% of the ordinary share capital
- control at least 5% of the voting rights
- have a right to at least 5% interest in the distributable profits
- have a right to at least 5% of the net assets due to the equity holders on a winding-up of the company.
The new tests 3) and 4) were brought in from 29 October 2018 and have now been joined by a further new test per the amendments of 21 December 2018 to the Finance Bill at , Sch 15, para 2.
This adds an alternative test for a “personal company” based on the shareholder’s entitlement to proceeds in the event of a hypothetical sale of the whole company and requires the shareholder to instead be entitled to at least 5% of the proceeds in the event of such a disposal of the whole company. This test can be used instead of tests 3) and 4), however those tests remain in force as well.
This new test can have interesting implications in certain cases, and may be particularly relevant in buy-out situations where the terms provide for certain additional proceeds on a future sale depending upon meeting certain targets. Being entitled to a larger share of the profits could then conceivably make the difference between obtaining ER or not. The exact treatment will depend on the exact situation and terms, and so advice on these aspects will be vital in ensuring any expected ER is maintained.
To add to the complication, any disposals made between 29 October 2018 and 20 December 2018 must apply tests 3) and 4) and cannot apply the new test which only applies to disposals after 21 December 2018. This means the position could change in certain circumstances depending upon whether the sale was before, during, or after this interim period.
These changes make it more important than ever that professional advice is sought before making a disposal. This way, the position can be ascertained in advance, with suitable planning undertaken where necessary/possible to improve the position. Eaves and Co would be delighted to assist if you or your clients have any queries in the area.