Tax writer Bloomsbury Professional
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Shuttered store front

Disincorporation and downsizing: Get the details right


Mark McLaughlin, co-author of ‘Incorporating and Disincorporating a Business’ (Bloomsbury Professional), looks at some important considerations for company owners when disincorporating their business.

1st May 2020
Tax writer Bloomsbury Professional
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These are difficult and worrying times, including for business owners. It was reported in the Financial Times last week that an extra 21,000 companies were dissolved in March 2020, compared to March 2019.

Sadly, the Covid-19 pandemic will cause the failure of many businesses. Some companies will cease trading, never to recommence. However, other companies will survive, although their owners may be forced to operate on a much smaller scale.

Crumbs Ltd and Bill

By way of illustration, Bill is the sole director and shareholder of Crumbs Ltd, a small catering business, which has traded in London since 2016. COVID-19 has forced the company to release its only two employees.

Bill is hopeful he can still earn a living for himself but would prefer the simplicity of owning and running the business personally.

This article looks at some important tax implications for Bill’s accountant to consider when advising him on disincorporating the company and operating the business as a sole trader.

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Replies (4)

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By Trethi Teg
02nd May 2020 07:32

I am not sure why Bill would want to do this. No benefit to being a sole trader - except a little, stress little - work with accounts, corp tax return etc. However, if this pandemic has taught us anything is how things can go horribly wrong. Therefore the concept of limited liability is more valuable today than 3 months ago. Why go through the above for little or no gain?

That said this is a good article and where disincorporation is required for non financial reasons e.g. some regulatory circumstances.

Thanks (1)
Replying to Trethi Teg:
By philaccountant
04th May 2020 10:16

Indeed, interesting reading but sounds like a total minefield for very little gain.

Thanks (0)
By cfield
04th May 2020 14:23

Yes it would be more useful to have an article summarising the tax implications of winding up a company without a transfer of trade. This is going to be far more common, and is already in point for contractors shafted by the new IR35 rules. I know they've just closed the stable door for another year on this, but the horse has already bolted for many contractors.

A lot of these issues are still relevant, such as valuing the fixed assets and any remaining stock, both for tax and VAT purposes. It is worth noting, however, that VAT is waived on stock and assets if it comes to less than £1,000 (so valuations up to £6k are exempt) but there will be a claw-back of capital allowances on fixed assets, whatever their market value, if the AIA was claimed on them.

The stock and fixed assets should either be debited to the director's loan account at market value (typically whatever they would fetch on eBay) or paid on invoice, but if the company does invoice them, remember to deregister from VAT first.

There is no depreciation in the year of disposal. Just write the net book value down to nil, deduct the sale proceeds (or deemed market value) and debit the loss on disposal to P&L. It's not tax deductible but it will help to get retained profits down. Gains are unlikely when writing off fixed assets.

If there are savings accounts with fixed notice periods, call them in before you begin the wind-up. No point in paying early withdrawal penalties. P2P loans are quite common now. These are more problematical as the platforms have suspended their secondary loan markets. There might be a way of putting them in your own name and treating them as a sale of assets. The platform helpline may be able to answer this point. Hopefully they won't need a letter from the liquidator.

Directors who have legitimately furloughed themselves might wish to claim 80% of their average monthly salary up to 30/6/20 (or longer if the CJRS is extended) before they fold their companies. This can be claimed even if they have started a new job, so long as they remain on their own payroll and are still paying themselves the 80%.

They might even claim statutory redundancy pay based on age and length of service. This is tax free for the director but tax deductible for the company. You don't need a written employment contract for this. HMRC say in their manuals that they will accept redundancy pay for owner-directors up to the statutory amounts. Best to write a letter giving yourself the required notice though, and email it to your accountant. Maybe a board minute too. Otherwise, it might look a bit dodgy!

Terminal loss relief will be available if there were losses in the last 12 months of trading. These can include the aforesaid redundancy pay. You can go back 3 years with this so if losses are high they might get a substantial corporation tax rebate. So long as they can prove they were trading that year, of course! These claims should go through without a hitch if there was some turnover in the final year.

They might wish to take a last ditch dividend before they finally decide to cease trading in order to get retained profits below £25k and thus avoid the cost of a liquidator. You need to be careful with this as the £25k is before dividends taken in anticipation of a winding up. There need to be strong grounds for believing the business was still trading at the time, even if it wasn't generating any income. The director might well have been looking, or least hoping, for further contracts.

It's also worth taking at least £2k in dividends for 2020/21 to use up their tax free limit, plus any interest owed on their loan account up to the tax free limit. You can use an old CT61 form for this if you have one. A photocopy or print from a PDF will do. Otherwise, you can now order a CT61 online.

It might even be worth doing a last-ditch transfer of shares between husband and wife in order to utilise both their £12k CGT exemptions. Always document this on a Stock Transfer form.

Section 455 tax on overdrawn loan accounts is always a thorny issue on liquidations. HMRC insist on taking the full 9 months to repay this so it is bound to hold up the final dissolution. Always make sure the old loan is repaid by the year end (or at least by cessation of trading) and no new loans arise that cannot be repaid by salary or dividend within 9 months.

Of course, the only reason for having an MVL rather than filing Form DS01 yourself is to qualify for CGT treatment if your retained profits exceed £25k. Be very careful with this if you think you might end up contracting again in the next 2 years, or even doing the same line of work as a sole trader or in a partnership. Otherwise, HMRC could re-classify your final distribution as a dividend and hit you with a massive tax bill, plus interest and penalties. Even if you wait more than 2 years, there are anti-avoidance rules that might trip you up if they can prove your motives were less than pure.

Lastly, always pay off any taxes owed to HMRC, file the final CT600, deregister from VAT, close the PAYE scheme and get your loan account down to zero before handing over to a liquidator. I was told by a local ISP that overdrawn loan accounts can no longer be netted off final distributions. You have to repay them first, preferably before the liquidator takes over. He should be given a Balance Sheet with nothing on it except cash at the bank and retained profits.

All of this is worth a decent final fee if you're an accountant acting for an MVL client, or even a DS01 one. I ought to get a commission really. PM me if this post is really helpful and you think I deserve one!

Thanks (2)
JPS Bookkeeping
By JPS-2004
11th May 2020 10:36

very interesting and extremely helpful - thanks

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