Don’t pay too much tax – act NOW!!!
Subsequent to our September 2015 Newsletter in respect of Members Voluntary Liquidations, HMR&C produced a consultation document on 9 December 2015 in respect of Company distributions.
The consultation is due to run until 3 February 2016, with new draft legislation expected to be part of the Finance Act 2016, being effective from 6 April 2016.
Why the change?
The way in which company distributions to individuals are taxed will fundamentally change from April 2016, which is likely to result in higher tax charges than previously on individual’s income from Company distributions.
The government is concerned that this will lead to more individuals rearranging their affairs to take advantage of the lower taxation rates for Capital Gains when compared to income.
Whilst it will still be possible (in select circumstances) from April 2016 to extract Company capital and benefit from the lower CGT rates, including Entrepreneurs’ Relief, the government is trying to stop individuals taking advantage of the rules through transactions which are ‘tax rather than commercially driven’.
To misquote Lord Clyde (who is no doubt turning in his grave) it appears that, now, “every man in this country is under the obligation, moral or other, to arrange his legal relations to his business as to enable HM Revenue & Customs to put the largest possible shovel into his stores.”
What is the effect?
Shareholders can receive value from a Company subject to CGT rather than income tax in the following ways:
- Distribution in a Winding Up
- Disposal of shares to a third party
- Repayment of share capital
- Purchase of own shares (unquoted Companies)
The government intends to tighten the Transactions in Securities rules, amend existing legislation regarding Company distributions, introduce a connected parties rule and introduce a new targeted Anti-Avoidance Rule.
This would allow HMR&C to issue an assessment effectively reclassifying Capital Gains income as being subject to Income Tax.
The intention appears to be to force individuals to organise their affairs in the least tax-efficient way.
In further detail
Distribution in a Winding Up
The government is concerned with ‘Moneyboxing’ (retaining profits in excess of commercial needs in anticipation of eventual liquidation), ‘Phoenixism’ (liquidating old company for tax benefits whilst setting up new company to continue trading) and ‘Special Purpose Companies’ (separating business projects amongst numerous companies so each part can be liquidated as the project comes to an end).
The consultation proposes that for MVL distributions in a Close Company1 if within a period of two years after the winding-up the shareholder continues to be involved in a similar trade or activity and the main purpose (or one of the main purposes) of the MVL is to obtain a tax advantage then the distribution would be treated as income for tax purposes.
This will not apply where the distribution is solely of irredeemable shares in a subsidiary Company.
Whilst it can been seen that ‘Phoenixism’ and, to some extent ‘Special Purpose Companies’, are not in the spirit of the rules, their concern over ‘Moneyboxing’ does make you wonder whether the eventual plan is for shareholders to be taxed as profits accrue, rather than are taken, similar to the treatment with partnerships.
Disposal of shares to a third party
Whilst the government appears to accept that disposal to a third party is usually an appropriate time for a shareholder to receive a capital return on their shares, they do have a number of concerns.
These are mainly that the disposal is contrived or, that the shareholder will retain profits within the Company rather than extract them as income thus inflating the value of shares and enabling the sum received to be taxed as Capital rather than income. Again, HMR&C have powers to issue an assessment effectively reclassifying Capital Gains income as being subject to Income Tax.
Repayment of share capital
It is common practice during Company re-organisations to create a holding Company which purchases the shares of existing Companies from their shareholders.
Whilst the government is satisfied that purchasing the amount paid for the shares should not result in an income tax charge for the seller, they are concerned that retained profits could increase the share price thus effectively converting income to capital.
It is therefore imperative that specialist tax and accountancy advice is sought before any decision to restructure is made.
Purchase of own shares (unquoted Companies)
The general principle is that any excess paid by a Company for its own shares over the capital amount originally subscribed is classed as a distribution.
However, special provisions relating to unquoted trading companies and unquoted holding companies of a trading group relax these rules allowing the amount received by the shareholder to be subject to CGT instead.
Whilst the government have stated they would like to retain these provisions, there is concern that they may be ‘exploited’. With this in mind, it would not be surprising if the current exemptions were altered significantly at some point in the future, therefore if you believe this may apply to you, seeking advice and planning ahead is highly recommended.
What can I do?
Most importantly, you should speak to your accountant or tax advisor as soon as practicable. They will be able to best advise you as to how to extract your funds as tax efficiently as possible, whilst staying within the regulations. Given the number of changes due to take effect in April, it makes sense to start planning now.
If you do not have an advisor, we can put you in touch with one or more of our many contacts, whom you may choose to engage to advise you.
If you are considering an MVL for tax purposes, and wish to avoid the distribution potentially being treated as income, the distribution in the MVL must be made prior to 5 April 2016. Due to the short timescale, you should contact us as soon as possible to start the process.
1 Subject to certain exceptions, a close company is broadly a company which is under the control of five or fewer participators, or any number of participators if those participators are directors, or more than half the assets of which would be distributed to five or fewer participators, or to participators who are directors, in the event of the winding up of the company. (source: www.hmrc.gov.uk)
[Written in January 2016]
For impartial, in-depth, one-to-one advice
contact us on 0161 438 8555 or
by email to info@jldllp.co.uk
