Business Asset Disposal Relief: Tax Saving Strategies for Entrepreneurs

Entrepreneurs face tough decisions, like selling their businesses or assets. When they do well and sell, they might have to pay Capital Gains Tax (CGT). But not everything…
by Prasun
September 22, 2023
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Entrepreneurs face tough decisions, like selling their businesses or assets. When they do well and sell, they might have to pay Capital Gains Tax (CGT). But not everything they sell has the same tax rate.

If someone pays basic tax, they pay 10% CGT on things they sell, except property. People paying higher taxes pay 20%. That’s where Business Asset Disposal Relief (BADR) comes in. It shows that the UK supports entrepreneurs when they’re ready to move on.

The cool part? BADR helps people paying higher taxes. They only need to pay 10% CGT when they sell, which is a great deal. This special rule makes running a business even better.

Using Business Asset Disposal Relief for Tax saving.

Using Business Asset Disposal Relief for Tax saving.

For those who meet the qualifying criteria, significant tax savings could be in store when selling the following business assets:

  • Major Physical Assets: This category includes significant physical items like construction equipment, IT gear, vehicles, and more. The key is that the sale of these items represents a substantial portion of the business and could function as a separate entity.
  • Sole Trade or Partnership Business: Whether you’re selling the entirety or part of your sole trade or partnership business, both the tangible (like physical assets) and intangible aspects (such as rights, intellectual properties, or copyrights) can qualify.
  • Stocks and Shares in a Company: If you’re dealing with shares within a company, you might be eligible for relief.

If you’re selling assets personally owned and previously lent to the business, you’ll need to have sold at least 5% of your company shares. Also, those assets should have been used within a year before the sale date.

In a range of situations, BADR offers relief from higher CGT payments, subject to unique regulations that hinge on the asset type or business exit plan.

Effective BADR Claiming Strategies

Some of the strategies and points to be considered for effective claiming of BADR is discussed below:

1. Disposing whole or part of business

Disposing whole or part of business - Business Asset Disposal Relief

From the perspective of Business Asset Disposal Relief (BADR) in the UK, selling the entire part of your business could potentially lead to tax benefits. This relief can substantially reduce the Capital Gains Tax (CGT) payable on the gains from the sale.

When you own a business, you might want to sell just a part of business. When part of business is disposed, you have to make sure that the part you sell can still work well on its own. If you sell a part of the business that can’t run without the part you keep, then you can’t use BADR. It’s like BADR only works when the sold part can stand on its own feet.

2. Sale of shares

When dealing with the disposal of shares or securities in a company for the purpose of Business Asset Disposal Relief (BADR), the term ‘material’ holds significance over a two-year period before the disposal. During this time:

  • The company should be your ‘personal trading company’, and
  • You must have actively worked for this company or another in the same group. Importantly, there’s no minimum requirement for hours worked, making full or part-time employees and directors eligible.
Sale of shares - BADR

A ‘personal company’ is one where you own at least 5% of the ordinary share capital and can exercise 5% of the voting rights. Additionally, you should be entitled to a minimum of 5% of distributable profits and assets available during winding up, or 5% of proceeds from selling all ordinary share capital.

These conditions aim to ensure your substantial stake in the company, indicating your genuine entrepreneurial involvement.

However, once you meet the personal company condition yourself and qualify for BADR, any new shares you acquire will also qualify for BADR.

3. Consider the definition of ‘Trading’

For BADR, the company must be a trading company or holding company of a trading group or carrying out trade in substantial extent. HMRC considers a ‘substantial extent’ to mean ‘more than 20%’. This test is applied to various criteria like turnover, asset base, management time, and expenditure.

Trading company is one which carries out trading activities like developing a business plan for carrying on the trade, acquiring premises, hiring staff, ordering materials and incurring pre-trading expenditure for the purposes of the trade to be carried out.

Trading Business Asset Disposal Relief

BADR will not be application in a company with substantial non-trading activities like accumulating excessive cash reserve, actively managing deposits to generate investment returns and making loans.

Hence the company should be engaged in trading activities for more than 20% of its total nature of business to claim BADR.

4. Relief for Shares under Enterprise Management Incentive

Rules are more flexible for those holding Enterprise Management Incentive (EMI) shares acquired through genuine EMI options.

BADR can apply to EMI shares granted at least two years before disposal, even if personal company tests aren’t fully met.

5. Jointly Owned Assets with Spouses

Let’s consider a scenario in which spouses jointly own an asset, such as a building, that is used in their partnership. If the partnership is dissolved and the building is sold, the gains made by each of them upon the sale of the building will qualify for Business Asset Disposal Relief (BADR).

Jointly Owned Assets with Spouses - BADR

However, let’s imagine an alternative situation in which a husband and wife jointly own an asset, like a building, that is used solely in the husband’s trade. If the trade ceases and the building is sold, only the proportion of the gain attributed to the husband will qualify for relief. This is because he is the sole individual engaged in a business that utilises the asset, making the wife’s gain ineligible for relief.

In such cases, the couple has a few potential courses of action. They could consider transferring the wife’s half of the asset to the husband, allowing him to qualify for relief. Alternatively, the wife could become a partner in the business, provided this change occurs more than two years before the business ceases and the asset is sold. This would enable both spouses to individually claim BADR, creating an opportunity to make use of the £1 million relief threshold.

6. Relief in case of dilution

Relief in case of dilution BADR

If your shareholding drops below 5% due to dilution, an election might preserve your BADR rights for gains up to that point.

These gains are chargeable at the 10% BADR rate, either at the dilution date or deferred to a subsequent disposal, as long as other BADR conditions are met.

7. Claiming BADR on share for share exchange

When you exchange shares for securities in another company, special provisions treat the exchange as not disposing of shares for CGT purposes, deferring any arising capital gain.

If the new shares or securities don’t meet BADR criteria, electing to disapply the ‘no disposal’ treatment could help crystallise gains and benefit from BADR.

8. Ceasing the Company

The disposal of shares in a company that has ceased trading might also satisfy the material disposal condition. In this case, the personal trading company and working conditions must be met for two years before the trade cessation, and share disposal must occur within three years.

In the case of the disposal of an asset used in a business at the time of cessation, ‘material’ means that the business must have been owned by the taxpayer for at least two years prior to cessation and the asset must be sold within three years of the cessation.

Ceasing the Company BADR

At the time of liquidation of the company, any residual fund can be transferred to the owner either in a form of salary payment or as a dividend. Both could result in tax ranging from as low as 20% up to 39.35%.

Using BADR could mean, extracting the capital by paying tax on the capital gain at 10%.

This would not be applicable if in case it is found that the company has only been liquidated for the purpose of claiming benefit from BADR.

9. Sharing of ownership

When the owner of a personal company shares business ownership with a partner or family member, they can optimise the advantages of extending BADR benefits. This is because the lifetime limit of £1 million applies to each individual.

Consequently, by distributing the shares of the personal company among joint owners, gains from share sales can benefit from BADR coverage, with the limit of £1 million applicable to each joint owner.

10. Share structuring to qualify for BADR

Share structuring to qualify for BADR

When assigning shares, assess whether the shareholder holds a beneficial entitlement of a minimum of 5% of distributable profits for equity holders and, in case of winding up, at least 5% of available assets.

Similarly, if a complete disposal of the company’s ordinary share capital occurs, the individual should have a beneficial entitlement to no less than 5% of the proceeds.

11. Associate Disposal

An instance of Associate Disposal arises when a taxpayer significantly sells a business or shares/securities in a company. This transpires as part of the individual’s departure from the business. During this procedure, the individual also disposes of an asset that had been employed within that business. The asset being sold must have been in use within the business for a minimum of 2 years, and the individual must have owned the asset for the preceding three years leading up to the sale.

However, the substantial sale can encompass less than a 5% ownership interest, provided the sale encompasses the entirety of the individual’s partnership interest. This is applicable if the individual has maintained an ownership interest of 5% or more for at least 3 out of the 8 years preceding the sale.

It’s crucial to note that the Associate Disposal regulation does not extend to sole traders or isolated scenarios. The sale must be linked to something – for example, the sale of the business where the asset had been employed.

Leveraging BADR: An Artful Tax Strategy

Business Asset Disposal Relief empowers entrepreneurs with a potent tool for tax optimisation. By navigating its nuanced terrain, entrepreneurs can strategically align their ventures with tax-efficiency, creating a smoother transition to new endeavours.

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