Entrepreneurs' Relief is a capital gains tax relief available to those selling or giving away their business. This article from our Business Tax Library summarises tips from TolleyGuidance to help you get to grips with this key business relief.
Entrepreneurs' Relief reduced the amount of CGT paid on a disposal of qualifying business assets on or after 6 April 2008.
This relief will be available to:
- Sole traders and partners selling or gifting the whole or part of their business
- Company directors and employees holding at least 5% of ordinary shares and voting rights in a qualifying company who will share or gift all or part of their shareholding
In 2010, the relief changed to qualifying gains arising from 23 June 2010 being taxed at a flat rate of 10%, with the previous need to reduce the gain by 4/9ths being removed.
Conditions for relief
To claim relief, you have to satisfy a number of conditions through the qualifying period, which depend on the type of business disposal you've made.
Relief is available where there is either:
- Material disposal of business assets
- Disposal associated with a material disposal
- Disposal of trust business assets
Disposal of a material asset
If the person is only selling part of a business, this part must be capable of being carried on as a going concern.
According to Tolley's guidance, the disposal of assets which don't constitute a sale of business capable of being carried on in its own right won't qualify for the relief.
The definition of a material disposal depends on the type of asset sold:
- In the case of a sale or gift of whole or part of a sole trade or partnership business, it must have been owned by the vendor throughout the year ending on the date of the disposal or cessation
- It must have been owned by the taxpayer for one year prior to cessation and must be sold within three years of cessation
In the case of the sale or gift of shares or securities in a company, the disposal is material if throughout one year prior to the disposal of shares or date company ceased trading:
- The company is a trading company
- The company is the taxpayer's personal company
- The taxpayer is an officer or employee of the company or another company in the same group
Entrepreneurs' Relief is only given in respect of relevant business assets, i.e. assets used for business purposes such as premises.
This means businesses can't get relief for chargeable assets bought within the year, as long as they are brought into use in the business.
There is no relevant business assets requirement for the sale of shares or securities, meaning there is no need to prorate the relief in accordance with underlying investments held by the company.
Tolley advises using HMRC's CGT for land and buildings toolkit when calculating the capital gain or loss on the disposal of land or buildings.
Definition of a trading company
According to Tolley Guidance, this is a company carrying on trading activities which does not include to a substantial extent activities other than trading activities.
HMRC says "substantial extent" means more than 20%. However, 20% of what?
Tolley says the test is applied to criteria such as:
- Asset base or balance sheet
- Directors' time
HMRC won't apply the test if the company had a particularly poor trading period. Without this, according to Tolley, a company with seasonal trading fluctations, for example, might not be considered a trading company.
It's suggested that the taxpayer might consider making a non-statutory business clearance application to HMRC for a trading status ruling, which would be separate to tax compliance from the shareholder.
A disposal made after material disposal of business assets can qualify for Entrepreneurs' Relief it it's associated with it.
How it can be associated:
- The individual makes a material disposal of the whole or part of their interest in a partnership or shares or securities in their personal trading company
- The material disposal is made as part of the withdrawal of participation in the business
- The asset sold after material disposal had been used in that business throughout one year ending with either the disposal or cessation of the partnership or company
Tolley said these conclusions flagged a few points, including:
- The associated disposal rules don't apply to sole traders
- These rules don't apply to isolated disposals of assets
- The material disposal must happen first
HMRC says there should not be a significant interval between the material disposal and associated disposal.
Time-frames for associated disposal are:
- Within one year of cessation
- Within three years of cessation if the asset hasn't been leased or used for any other purpose after the business ceased
- Where the business hasn't ceased, within there years of the material disposal provided the asset hasn't been used for any purpose other than that of the business
There are also restrictions of relief on an associated disposal: If the asset is used in the business for only part of the ownership period, is only partly used in the business, or if the individual isn't involved in the business throughout the period or if the asset was rented to the business.
How to claim and report Entrepreneurs' Relief
It must be claimed by the first anniversary of the 31 January following the tax year of the disposal.
The gains are reported via usual channels on the CG summary supplementary pages in accordance with the type of asset sold. Calculations of the gains must be attached and submitted with the tax return.
The relief is claimed by crossing boxes 20, 26 and 34 based on the type of asset and including details in the white space on page CG2.