Reducing Capital Gains Tax after cuts to Entrepreneurs’ Relief

With HMRC cutting the level of Entrepreneurs' Relief, what other options are available to reduce tax exposure on business sales?

12 March 2020

In a Budget that was relatively light on major tax announcements, the reduction of the entrepreneurs’ lifetime limit from £10 million to £1 million per individual stands out as a headline-grabbing change to the tax system.

While the relief is claimed by relatively few individuals each year, for those who qualify it results in very large tax savings (up to £1 million until the recent change). So, with HMRC cutting the level of the relief, what are the other options to reduce tax exposure on business sales?

Make use of multiple allowances

It should be remembered that the new limit of £1 million applies per taxpayer rather than per transaction. If shareholdings can be spread around a family group (e.g. by transferring shares to a spouse) it may be possible to make use of a number of separate allowances and therefore reduce overall tax exposure.

For those thinking of undertaking such planning they should remember that under previous changes to the entrepreneurs’ relief rules, the holding period to qualify for relief was increased from one to two years; undertaking planning in good time is therefore important.

As well as making use of a spouse’s allowance, depending on family circumstances it may also be possible to transfer shares to children or grandchildren with the benefit of holdover relief to further increase the amount of relief available on a transaction.

Defer the gain

When shares are sold it is sometimes possible to defer the disposal for capital gains tax purposes and then look to manage the inherent liability over time. For example, it may be possible to take some of the consideration as “loan notes” rather than cash, with the capital gain associated with the loan notes being deferred until those notes are encashed.

Doing this only defers the tax charge but if the notes are then encashed gradually it can often reduce overall tax exposure due to the availability of multiple annual allowances and also, potentially, a lower rate of capital gains tax (to the extent the gains fall in to the basic rate band).

In a similar (but likely riskier) vein, in some cases if gains are triggered they can effectively be “rolled over” if the selling shareholder is willing to invest the proceeds into companies qualifying for the Enterprise Investment Scheme.

Use Investors’ Relief

One unusual aspect of the reduction in the entrepreneurs’ relief allowance is that this was not matched by a similar reduction in the lifetime allowance for investors’ relief.

Investors’ relief was first introduced in 2016 and while there are similarities to entrepreneurs’ relief (an ability to reduce the capital gains tax rate to 10% on gains of up to £10 million), there are number of important differences.

For example, the shareholder, or anyone connected with them, cannot be an officer or employee of the company in question. Until recently, there has been relatively little focus on investors’ relief but with the reduction in the entrepreneurs’ relief allowance it is likely that taxpayers will look to take advantage of investors’ relief where possible.

Go offshore

Leaving the UK to reduce tax liabilities has always been an option but it is a relatively unpopular one. This is for two reasons.

Firstly, until the recent change the tax rate applying on most business sales was very low.

Secondly, while leaving the UK may sound like an attractive option on paper, he need to remain non-resident for an extended period in order for such planning to work means it often turns out to be a less attractive option in practice.

While the practical complications of leaving the UK will remain in place, given the greater tax exposure that business owners may face on a sale, it may be that in future, “going on a Sunak cruise” becomes a more common option.

Retain assets until death

While it is the ultimate example of the adage, “never let the tax tail wag the lifestyle dog”, the changes to entrepreneurs’ relief have underlined the fact that for some business owners retaining assets and dying while still “in harness” is often the best way to minimise tax.

This is due to a combination of business property relief (which can effectively remove business interests from the inheritance tax net) and the tax-free “rebasing” that occurs on death.

Recent papers published by the Office of Tax Simplification and an all-party parliamentary group on Inheritance and Intergenerational Fairness have advocated the reform or removal of both these rules.

However, for now they remain in place and provide a way to potentially remove capital gains tax liabilities altogether if sales can practically take place following a death rather than before.

This may, of course, not be a practical option for many business owners but it is worth bearing in mind if a sale can be delayed.