The Autumn Statement of 25 November 2015 foreshadowed changes to the taxation of company distributions. The Finance Bill 2016, published on 9 December 2015, gives more detail of the changes. They affect in some circumstances the way in which the proceeds received by a shareholder on the liquidation of a company will be taxed.
This briefing is based on the Finance Bill proposals and the limited guidance which has been published by HMRC. The proposals may be changed before passing into law.
Who is potentially affected?
Any individual receiving a distribution on a winding-up of a company.
What is changing?
At present, the general rule is that (unless certain anti-avoidance legislation is invoked by HMRC) any distribution in a winding-up is charged to Capital Gains Tax (“CGT”) in the hands of an individual. The rate of tax may be as low as 10% (if Entrepreneurs’ Relief is available) and will be a maximum of 28%.
Under the new proposals, distributions will in some common circumstances be chargeable instead to Income Tax, at rates ranging up to 38.1%.
When will the changes come into force?
The rules will apply to distributions made after 5 April 2016 (regardless of whether the liquidation commences before or after that date).
What distributions will be caught by the new rules?
The rules will apply if three conditions are all met. The conditions are broadly as follows.
The company is a “close company” (or has been such a company within the previous two years). This will include most privately-owned companies.
Within two years after the date of the distribution, the individual receiving the distribution (or someone connected with him or her) is involved in carrying on any trade or other activity previously carried on by the company (or any similar trade or activity); this could for example be as sole trader or via a partnership LLP or new company.
It is reasonable in all the circumstances to assume that one of the main purposes of the liquidation (or arrangements of which the liquidation forms part) is the avoidance of Income Tax. For this purpose the fact that Condition B is met is regarded as a relevant circumstance.
Are there any exclusions?
There is no charge to Income Tax to the extent that the amount distributed
- does not exceed the amount originally subscribed for the shares or
- is itself a shareholding in a subsidiary company.
In either case there may, as under the current rules, be a charge to CGT.
Client A has carried on business through his company for many years. On reaching retirement he sells the shares in the company.
Client A is not affected by the new rules: they apply only in a liquidation.
Client B has carried on business through his company for many years. On retirement the company sells the business and is wound up with cash being distributed to Client B.
Client B is not affected by the new rules: he is not involved in any trade or activity previously carried on by the company or any similar trade or activity.
Client C has carried on business through his company for many years. The company sells the business and is wound up with cash being distributed to Client C. Client C uses the cash to start a sole trade in the same line of business.
Client C may be affected by the new rules such that the cash distributed in the winding-up is charged to Income Tax.
Client D owns a family property investment company. He winds up the company and distributes the investment portfolio to the shareholders who continue to operate the property investment business as a partnership.
Client D may be affected by the new rules such that the value of the properties distributed in the winding-up is charged to Income Tax.
For more detail please get in touch with your usual BKL contact or use our enquiry form.