HMRC to review trading test for Entrepreneurs’ relief

20 July 2016

20 July 2016 by Bob Trunchion Tax

Entrepreneurs’ relief is a very important CGT relief – it allows business people to sell their shares and suffer just a 10% tax rate rather than the normal 20% (previously 28%). It is a very generous relief and very important if you are thinking of either selling your business or retiring. It has been publically scrutinised by the Public Accounts Committee in the past given the tax “loss” it creates. 

It is only available for companies that meet the qualifying conditions. One of these is that it must not just be carrying on a business (i.e. holds some buy to let properties) but is a full trading company. The now former Chancellor announced in the Budget earlier this year that a review of the trading test for Entrepreneurs’ relief was to be conducted. 

The issue was that the current definition of trading looks at the activity of the company or group rather than the nature or use of the assets. So, let us take a company whose business it is to sell flowers, which has £750,000 sitting in a bank account from selling its old shop ten years ago to a property developer. However, they carry on selling flowers from a much smaller rented shop as the owners do not want to retire yet. It currently falls to be a trading company for entrepreneurs’ relief purposes; however, the value of the shares will be predominantly derived from the sizeable cash balance.

Whilst this might be an extreme example, there are many OMBs that will have built up cash reserves from their trading activities over the years and have not distributed them both to be prudent in these uncertain times but also in the knowledge that when they sell or wind up the business when they retire, they will pay Capital Gains Tax at just 10% rather than the much higher income tax rates (up to 45%) if they take the money out as dividends or salary.

We have obtained information that HMRC are considering alternative options with regards to the trading test such as an apportionment of the gain between trading and non-trading assets held in the business or a binary test such that if non-trading assets exceed a certain percentage, no relief will be available.

HMRC will face challenges in finalising the details as liquidations, seasonal businesses and other businesses that need to retain large cash balances pose problems in the way legislation might be drafted and how it is then applied in practice.

However, if your company does have large cash balances which may have arisen over the years for which no compelling business reason exists for it being retained in the company, you may wish to take advice on the potential consequences to your ultimate CGT bill and steps that you could take to reduce this. This would be a valuable exercise, anyway, as “too much” cash could affect another valuable relief – Business Property Relief – which reduces the IHT bill on your business in some situations.

If you think these matters could be a problem for you (for, although it could be argued that you can never have too much cash, HMRC would disagree), do make an appointment to see your local engagement partner who will have the latest information and be able to give you good practical advice going forward.  

If you require further information on this topic please speak to your MHA MacIntyre Hudson advisor, alternatively you can contact your local office or send an enquiry.