The attraction of Entrepreneur’s Relief encourages the owners of owner managed trading companies to wind them up and pay only 10% capital gains tax on liquidation distributions.
Phoenix type arrangements whereby the shareholders then form a new company to carry on the same trade are not looked on favourably by HMRC.
To counter this, new draft legislation proposes that from 6th April 2016 where the following three conditions are met, the liquidation distributions of a close company will be subject to income tax not capital gains tax. This will mean an additional rate (45%) taxpayer caught by these new rules, will be subject to 38.1% income tax on liquidation distributions (after his £5,000 dividend nil rate band has been used up) compared to possibly only a 10% tax rate if the distribution had been made before 6th April 2016. A shareholder will be caught by these new rules if the following conditions are all met:
- The company has been a close company at some point within the two years prior to the winding up.
- An individual who received a distribution on liquidation is within the following two years involved in the carrying on of a trade similar to that which was carried on by the company being wound up. This test is satisfied whether the person carries on a trade directly, through another company he controls or through a person with whom he is connected.
- It is reasonable to assume that tax avoidance/reduction is a factor behind the winding up.
Exemption from the new rules is provided to the extent that the distribution represents a repayment of share capital.
To avoid these new rules it would therefore be necessary to commence a members’ voluntary winding up and make a distribution before 6th April 2016. Time is short but it may still be possible if you act quickly.
Action to be taken
We suggest that individuals should immediately consider their options but before taking any action, seek professional advice.