UK BUDGET – AUTUMN 2018 – ENTREPRENEURS’ RELIEF

The Chancellor announced two key changes to Entrepreneurs’ Relief in today’s budget which will impact shareholders and business owners.

What is Entrepreneurs’ relief?

Entrepreneurs’ Relief reduces the rate of Capital Gains Tax on disposals of certain business assets from 20% to 10%.

What changes were introduced today?

 Today’s Budget introduced two new additional tests to be met:

1. The First one which extends the qualifying holding period from one year to two years for disposals on or after 6^th April 2019.  In other words, it increases the holding period for shares held by individual shareholders. Individuals will now be required to hold the shares for at least 24 months rather than the current 12 months before they can claim Entrepreneurs’ Relief on the disposal of their shares. This change will apply to disposals made on or after 6 April 2019.
2. The second change immediately introduces two further tests that must be satisfied before Entrepreneurs’ Relief is available. These tests will require the claimant to have at least a 5% interest in both (a) the distributable profits and (b) the net assets on a winding up of the company. The measure will have effect for disposals on or after 29 October 2018.

What does the 5% Rule mean?

 The changes introduced in today’s Budget mean that along with existing conditions that an individual must hold at least 5% of the ordinary share capital and voting rights of a trading company, the individual must also be entitled to:

a)       5% of distributable profits and

b)       5% of assets available on a winding up of that company.

How is Entrepreneurs’ Relief affected by Dilution?

 As previously announced, the Government confirmed that legislation will be implemented from 6^th April 2019 in relation to individuals’ shareholdings diluted below 5% as a result of a commercial cash investment.

These individuals will be able to elect to preserve their Entrepreneurs’ Relief on gains to the date of dilution by treating their shareholding as having been disposed of and simultaneously reacquired at market value at the time of dilution. Another way of looking at this is, under the new rules, a shareholder can elect to claim Entrepreneurs’ Relief on the capital gains accrued before dilution below 5%.  This is provided the dilution resulted from an issue of new shares for cash. The Entrepreneurs’ Relief will be claimed on the eventual disposal of those qualifying shares.  There is, of course, the prerequisite that the share issue has not occurred for the purposes of tax avoidance.

There will also be an election allowing the individual to defer any tax due until a future liquidity event.

It is important to keep in mind that this provision will also not be available if the percentage entitlement falls below 5% due to a part-disposal of shares.

What about Entrepreneurs’ Relief in situations where there has been a transfer of a business to a limited company?

 The changes to Entrepreneurs’ Relief introduced in today’s Budget will affect the availability of the relief on the sale of shares originally issued after the incorporation of a trade.

A transfer of a trade in exchange for shares in a trading company should benefit from Entrepreneurs’ Relief if the trade existed for at least two years prior to the date of incorporation.

Under the current regime the claimant was required to hold the resultant shares for at least two years prior to the date of disposal.

Therefore, this amendment to the Entrepreneurs’ Relief is deemed to benefit sole traders who incorporate the trade shortly before selling their business.