Entrepreneurs’ Relief was introduced in 2008 and whilst there have been changes to the amounts qualifying for relief, the basic scheme has remained unchanged since its introduction. This reflects the changes to the lifetime allowance announced in the Budget on 11 March 2020. It has also had a change of name and is now Business Asset Disposal Relief.
What is Business Asset Disposal Relief (Entrepreneurs’ Relief)?
In a nutshell, it means you could potentially pay less Capital Gains Tax when you sell part (or all) of your business.
How do I qualify?
You may be eligible for Business Asset Disposal Relief if you are a sole trader or in a business partnership and have owned the business for 2 years or more.
Business Asset Disposal Relief (Entrepreneurs’ Relief) allowance in more detail
There is a limit on the value of qualifying gains that can benefit from Business Asset Disposal Relief. An individual has a lifetime allowance of £1million of qualifying gains. Your lifetime allowance may be claimed in full on one disposal, or may be claimed in respect of a number of different disposals across a number of tax years until the lifetime limit is reached.
A claim for Business Asset Disposal Relief with respect to a particular qualifying disposal is applied to the net aggregate qualifying business gains (NAQBG). The NAQBG is the aggregate of the total relevant chargeable business gains and losses from the specific disposal. This is more relevant when a partnership interest is sold than for a sale of company shares.
The legislation provides that any capital gain that qualifies for Business Asset Disposal Relief is chargeable at a flat rate of 10%.
Business Asset Disposal Relief is an all or nothing claim and is automatically the lower of the NAQBG and the lifetime allowance not previously utilised. It is not possible to specify a lower amount. Accordingly, where it is anticipated that future qualifying gains will be made, it may be preferable not to claim Business Asset Disposal Relief if making the claim would result in a portion of the annual exemption being wasted.
Provided the qualifying conditions are met and the lifetime limit has not been exhausted, Business Asset Disposal Relief will be available.
Interaction with losses
Where a claim is made with respect to a qualifying business disposal any losses arising from the disposal will reduce the gains and it will be this amount (referred to above as NAQBG) that qualifies for Business Asset Disposal Relief. Losses on other disposals or brought forward losses will be deducted from this amount, although the legislation includes specific provision to allow the loss offset to be allocated in the most beneficial manner. This means that losses should be deducted from gains chargeable at 28% or 20%, before being deducted from gains qualifying for Business Asset Disposal Relief.
Material disposal of a business asset
There must be both a qualifying holding period and a material disposal. For there to be a qualifying holding period, the business or the company must be owned by the individual throughout the two years ending with the date of the disposal. If the disposal occurs within three years of the company ceasing to be a trading company or a member of a trading group, the holding period qualification must be met throughout the two years ending with the cessation of trading.
The equity test requires the shareholder to be entitled to at least 5% of the amounts available for distribution to equity holders and at least 5% of the assets available for distribution to equity holders on a winding up. The definition of equity holders includes loan creditors other than normal commercial loans and therefore this test needs to be reviewed at the time of sale to determine if the test is met.
The alternative test is based on an individual’s entitlement to at least 5% of the sale proceeds on a sale of the entire ordinary share capital. This is a notional test which can then be applied to a partial disposal of shares.
Provided an individual meets these tests throughout the qualifying period, additional shares and securities can be held for a shorter period with Business Asset Disposal Relief being available on the entire disposal provided the lifetime limit is not exceeded. This can be particularly helpful in relation to spouse shareholdings.
An individual who acquires their shares as part of an Enterprise Management Incentives (EMI) scheme, may qualify on holdings of less than 5%.
For a sale of shares or securities it is not necessary for you to dispose of your entire shareholding; provided the qualifying conditions (explained above) are met, Business Asset Disposal Relief will be available (subject to the limit imposed by the lifetime allowance) on a sale of some or all of the shares or securities.
Definition of a trading company
This is the same definition used for the purposes of the gifts of business assets and holdover relief provisions. Generally, any commercial activity undertaken with a view to profit should qualify as a trading activity for these purposes. However, for trades which are heavily based on property, you should ask for further advice to determine whether they would be treated as a trading company.
There is no requirement that the company must be a UK company.
However, where an overseas vehicle is used it will be important to consider whether it will meet the qualifying conditions. As you must be both a 5% minimum shareholder and director/employee of the business, this may affect the control and management tests for the overseas business and the total tax position should be reviewed accordingly before any decisions are taken.
There are further specific rules regarding any reorganisation of the company or business and how Business Asset Disposal Relief interacts with other reliefs which are not considered here.