The individual can choose how they carry on their business; for example, as a sole trader or using a limited company. They make this choice in the early days of the business and they are free to change their mind at any point thereafter.
Where the business is transferred from an individual (eg a sole trader or partnership) to a company, reliefs are available to ensure that this can be done in a tax neutral manner. Prior to 1 April 2018, a limited form of relief was available on a disincorporation; ie the transfer of a business from a company to an individual or individuals who own shares in the company. Now that this relief has gone, is disincorporation still worth considering?
The general rule is that less tax is payable on the profits of the business where that business is carried on by a company compared to an individual. However, this gap has narrowed significantly in recent years, in large part due to the changes in the taxation of dividends effective from April 2016.
This is illustrated by the chart below which shows the limited tax saving from operating through a company at a range of relatively low profit levels. Factor in the increased accountancy fees that come with a company and it may be that the corporate structure is leaving the business owner out of pocket.
That said, disincorporation is not a decision to be taken lightly. The transfer of the company’s assets, including goodwill, to the individual may give rise to a tax charge for both the company and the individual. The company will be taxed as if it has disposed of the assets at their market value. The individual will receive a distribution from the company which will be subject to income tax or CGT depending on the circumstances.
In most cases, capital treatment will give the better result for the individual but as a result of changes made in recent years – for example, the £25,000 cap placed on distributions made on a striking-off and the introduction of the anti-phoenixing TAAR – it is now less likely that the distribution will be capital in nature.
In many cases, the sole trader basis will be a better fit for the business owner, saving them time and money; but is it worth the one-off cost, in terms of tax and professional fees?
Pointers that may tip the balance in favour of disincorporation include the following:
low profit levels (say £30,000 and less);
the business owner is struggling with the corporate structure (ie not sticking to the remuneration plan; incurring penalties for late submission of returns);
no land and buildings or land and buildings standing at a relatively small taxable gain; and
minimal goodwill or goodwill giving rise to a relatively small income gain.