Buying & selling a practice – Part 3
Tax from the seller’s perspective.
When negotiating a sale it is always useful to have one eye on how much tax you are going to have to pay. In the last budget this was significantly revised and we all have to get to grips with the new Entrepreneur Relief {ER}.
There are 2 main scenarios to consider here – (1) a company selling the business to another person or company, and (2) an individual or partnership selling a business or a company to another person or company. Given that an increasingly common sale position today is that an individual owns the business premises and then runs the business (possibly through a company) and that the business and the building are often sold at different times, the complications under the new rules are immense.
Starting with the simplest tax-on-sale position where a company sells the trade to a third party. The company makes a capital gain being the difference between what the trade is sold for and what the company paid for it. The company has to pay Corporation Tax on the gain; if it is a company with a profit of less than £300,000 the tax will be at 21%. Of course, this leaves a sizeable chunk of money sitting in the company that needs to be extracted in a tax efficient manner – this is not the subject of this article.
Where the sale is either of the company (i.e. the shareholders sell their shares to the buyers) or of the business by a sole trader or partnership, then we are dealing with Capital Gains Tax {CGT}. In most circumstances when people set up a small company they take either 1 or 2 shares at a cost of £1 each or possibly as many as 100 shares at the same price. So if they then sell the shares on (and thus pass ownership of the company and all its assets and liabilities) for a much higher figure they are making a Capital Gain {CG}.
Each year there is an exempt amount of CG each person is allowed to make before being taxed, currently (2008/09) this stands at £9,600. The basic calculation is
CAPITAL GAIN = PROCEEDS OF SALE LESS INCIDENTAL COSTS MINUS COST OF PURCHASE PLUS INCIDENTAL COSTS
The gain is split between sellers in whatever proportion is appropriate to their ownership; they then deduct the annual exemption and pay 18% CGT on whatever is left. If they can claim Entrepreneurs Relief then the tax rate drops to 10%, but there are hoops to go through – no big surprise.
· You must have owned the asset for at least 1 year before sale.
· If you sell the business and the asset at different times, your asset sale must be within 3 years of the sale of the business.
· You must make a formal claim to ER.
· Each person’s aggregate lifetime gain cannot exceed £1million – anything over this amount will be taxed at the full rate.
The big danger I can see is that very often principals will sell the business with an agreement to sell the premises later on, simply because buying both at once can be prohibitively expensive. If the gap between the two transaction is more than 3 years (and believe me the Revenue will look very closely at the dates and if you are 1 day over ER will be denied) then your CGT rate increases from 10% to 18%.
I also find this lifetime aggregate interesting; suppose you make a CG of £400,000 in 2009, another £375,000 in 2025 and then a further £325,000 in 2049 this gives you a lifetime aggregate of £1.1m. So, on the assumption that CGT law remains unchanged for that long, on the last disposal you would pay 10% on £225,000 and 18% on £100,000. But who is going to keep track of the lifetime aggregate?