“ER” today, gone tomorrow

Stephen Hignett, Tax Partner, CMS

Here’s a good idea!

Sole trader sets up a company and sells his or her business and assets (mainly goodwill) to the company for market value (that market value amount being left outstanding as a debt).  This triggers a capital gains tax charge payable under self-assessment on the gain realised and, with entrepreneur’s relief (“ER”), tax is payable at 10%.  The company then carries on the business (and suffers corporation tax on any profits) and repays the debt.  No more tax is payable in respect of the debt repayments and said sole trader should have paid a lot less tax overall (as compared with the income tax and class 2 and 4 NICs otherwise payable on his or her income as a sole trader).

Unfortunately, what was a good idea yesterday is no longer a good idea today.  ER will no longer be available in respect of disposals of goodwill to related companies on or after 3 December 2014.

The other (rather better) news regarding ER relates to its interaction with the enterprise investment scheme (“EIS”) and social investment tax relief (“SITR”).  Under the rules relating to these reliefs, an investor can defer paying CGT in respect of a taxable gain if he re-invests the gain by purchasing EIS or SITR qualifying shares.  The deferred gain will only come back into charge for CGT purposes when the EIS or SITR shares are sold.

Under the old rules, if the deferred gain would have qualified for ER before it was re-invested into EIS shares, ER would no longer be automatically available when the gain came back into charge.  The changes announced today mean that EIS becomes even more favourable to certain investors by permitting a gain re-invested into EIS or SITR shares on or after 3 December 2014 to continue to qualify for ER when the EIS or SITR shares are sold and the gain comes back into charge.

Whilst EIS has been very attractive to investors with significant income tax liabilities, this extension of the reliefs available under the EIS and SITR rules will assist small businesses and social enterprises attract angel investors that have been entrepreneurs themselves, which should provide valuable support to fledgling entrepreneurs.

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