Business Asset Disposal Relief - A Summary
Governments recognise that encouraging people to start businesses and employ others is important for the economy, and that any charge to tax on disposal should be mitigated to recognise the years of work involved in building a business, and the financial risk that people take in doing so.
This was the principle behind Business Asset Disposal relief (BADR), formerly Entrepreneurs' relief, when it was introduced in 2008 to replace the earlier Business Asset Taper Relief. Over the intervening years, its conditions have been toughened and the lifetime limit of capital gains able to qualify for the relief has been reduced from £10 million to £1 million with effect from March 2020.
Nevertheless, to the extent it continues to be available, BADR is a valuable tool for business owners to minimise the tax payable on a disposal of a business or an interest in it, reducing the rate of CGT on qualifying capital gains to just 10%.
However, it should be noted that, if the individual disposes of other capital assets in the same tax year, then the gains benefiting from BADR use up any remaining part of the disposer’s basic rate band, forcing the other non-property gains to be taxed at 20%.
Disposal of shares in a trading company
The requirements for claiming BADR for a sale of shares in a trading company are that there is a disposal by an individual (or in some cases trustees) of:
- shares in a trading company where the seller was an employee or officer of the company, and
- in which they had owned at least 5% of the ordinary share capital, and
- with the ability to exercise at least 5% of the voting rights,
- each for at least two years ending on the date of disposal;
The seller must also meet one or both of the following two tests throughout the relevant two-year holding period:
- have at least a 5% interest in the company's distributable profits and be entitled to at least 5% of the assets available to equity holders on a winding up, and/or
- be entitled to 5% of proceeds in the event of a disposal of the whole of the company's ordinary share capital.
There may be some relief if the 5% shareholding is diluted by the further issue of shares – assuming that issue was for commercial purposes.
For the proceeds test there are three assumptions – firstly, that the whole of the ordinary share capital is disposed at its market value on the final day of the period, secondly, that the seller's share of the proceeds is the amount that the seller would reasonably expect to be beneficially entitled to at that time and, thirdly, the effect of avoidance arrangements is disregarded.
There is also a provision designed to help business owners who, by an issue of new shares, would cease to be eligible for the relief. This allows the owner to determine the amount of gain they had made on the period they were entitled to the relief by a deemed disposal and reacquisition. The owner can then defer that gain until they actually dispose of the shares, and thereby avoid incurring a "dry" tax charge.
What happens if the company ceases to be a trading company?
If a company ceases to be a trading company, BADR may still be available if the shares are sold within three years of the date on which the company ceased to trade.
Extra care needs to be taken if the disposal is not a third-party sale but the receipt of a capital distribution following the winding up of the company.
Other disposals qualifying for BADR
BADR may also be claimed (subject to the £1 million lifetime limit) for any of the following disposals, provided, again, that they are made by an individual (or trustees, in certain circumstances):
- The transfer of all or part of a business the seller had owned as a sole trader or business partner for at least two years, ending on the date of disposal;
- A disposal of assets used for the purposes of a business at the time when the business ceased; and
- A disposal of personally owned assets (assets the seller owns but that are used by the business) alongside a disposal of at least 5% of the seller's interest in the business and other related conditions.
If I do not qualify for BADR, are there any other reliefs?
Where BADR is not available for a sale of shares, it may be worth considering Investors' relief, a relatively new and underused relief that was introduced in 2016. This relief reduces the rate of tax to 10% on lifetime gains of up to £10 million.
It is available on a disposal of ordinary shares in unlisted trading companies by individuals other than officers and employees, or trustees in certain circumstances, and is subject to a three-year ownership period.
The shares must have been issued on or after 17 March 2016. However, as with BADR, there are detailed conditions that must be satisfied to qualify for the relief.
Where appropriate, it may be worthwhile selling a substantial shareholding to an employee ownership trust (EOT). Such a disposal would not be subject to any capital gains tax but requires a range of other issues to be considered. These will be discussed in a different article.
If you have any questions regarding BADR or Investors' relief, or in connection with a disposal of shares or a business more generally, please get in touch with a member of our Private Wealth or Corporate Tax teams.
From growing a business to starting a family or handing over control of that business to the next generation, every individual has their own goals to aspire to. Our Private Wealth lawyers advise our clients throughout this family life cycle, providing the legal advice required for specific transactions such as purchasing a home or selling a business, whilst also advising on the long-term opportunities for succession and estate planning.