New disincorporation relief

The need for businesses to choose the type of entity in which to operate without being disadvantaged from a tax perspective was a key feature of the Office of Tax Simplification (“OTS”) report on simplifying tax for small businesses. A discussion document was subsequently prepared by the OTS (the subject of Martin Mann’s Tax Journal article dated 14 October 2011) which once again puts the introduction of a tax relief for disincorporation firmly on the agenda. The final report based on feedback from the discussion process and containing proposals on the construction of the relief, was published by the OTS on 28 February.

What has been highlighted is that many small businesses which may have incorporated to ensure profits are taxed at lower rates of tax, now find that incurring the extra costs on drawings and administration burdens outweigh the benefits of operating via a company. Returning to a more straightforward trading entity may make commercial sense but in doing so, there is often a tax cost both at corporate and shareholder level. Furthermore, the amendments to ESC C16 taking effect this month, add additional exposure to those businesses which are looking to wind down, having never really taken off. For these businesses the introduction of a disincorporation relief, enabling them to change tact to operate within a more efficient structure without triggering significant tax costs would be most welcomed.

The OTS has made its recommendations to the Chancellor and this is one issue which practitioners should flag when reviewing the budget announcements and documentation. An outline of the OTS proposals is as follows:

  • Targeted at “micro” [1] companies.
  • The business of the company, including goodwill in particular and also property and machinery and plant used wholly in the trade of the business, can be passed on to its existing shareholders (must not include a company) with no tax arising at that point on the company.

  • No tax on shareholders who are disposing of their shares at the point of disincorporation.

  • Cash will be treated as a distribution and taxed as capital if < £25,000, otherwise income tax obligation arises.

  • Tax obligation arises when the business is sold.

  • The shareholders must carry on the business in an unincorporated form.

  • Company may be left dormant thus saving liquidator’s fees.

  • Relief available only for trading companies.

  • Relief not extended regarding stock and work in progress; balancing charges on machinery and plant; VAT under the transfer as a going concern; transfer of land; capital losses, excess management expenses and non-trading loan relationship deficits; trading losses.

  • Possible provision to prevent businesses from regularly switching of status. 

  • Time-limited relief of up to five years with a view to making it permanent.

  • HMRC to actively communicate the availability of the relief to the target parties.

  • A new joint working group by HMRC and Companies House for a one-stop process to deal with the disincorporation and dissolving of the company.

For further information please call TaxDesk on 0845 4900 509 and ask for Edvin Parisalu.

[1] OTS proposes that the EU micro business definition is used: number of employees <10; and either turnover   ≤ €2million or balance sheet total ≤ €2million