UK corporate finance advisors have an unusually hectic start to the new year. While you might not expect the Covid-19 crisis and recent UK lockdown to result in frenzied business deals, many advisors say they have never been this busy. Entrepreneurs, they explain, are rushing to sell their businesses ahead of possible tax changes that could cost them hundreds of thousands of pounds.
Small business owners already had a reprieve. Rishi Sunak, the Chancellor of the Exchequer, had expected to announce reforms of the capital gains tax (CGT) system in the fall, but decided to hold back. Now, however, the Chancellor is to put the finishing touches to the reforms, which are expected to be announced in the spring budget on March 3rd. New rules could come into effect by April 6, the first day of the 2021-22 tax year – or possibly even earlier.
Entrepreneurs have an idea of what to expect. Last year, Sunak hired the Tax Simplification Office to review the CGT system. While his mandate has not specifically directed the OTS to identify ways to increase the tax return, the desperate state of the UK’s public finances following Covid-19 provides the backdrop against which the Chancellor will decide which proposals to advance. And two possible reforms are giving many entrepreneurs sleepless nights.
The first concern is the proposal to align CGT rates much more closely with the income tax system. Currently, most taxpayers pay CGT at a 20% tax rate, while for property taxpayers it drops to 10%. In contrast, taxpayers with higher and additional tax rates pay 40% and 45% of their income, respectively. A corresponding increase in the CGT – and possibly the introduction of a new additional interest rate – would give the Treasury Department a practical advantage.
Problem number two is the possible abolition of the Entrepreneurs Relief. This tax break entitles entrepreneurs to a reduced CGT rate of 10% on the first £ 1 million in capital gains made on selling a business. The Chancellor has form in this area and has already cut the maximum profit that Entrepreneurs Relief can claim from £ 10m (these are lifetime restrictions, not allowances for any business sale). Now he might be about to get rid of the relief altogether or implement very limited qualification criteria; One suggestion is that entrepreneurs could only take advantage of the relief when selling a business to retire.
The combined effect of these two reforms would be costly to many entrepreneurs. Imagine a taxpayer with an additional tax rate selling his business for £ 5m today: he would pay £ 900,000 CGT, taking into account the impact of Entrepreneurs Relief and a CGT rate of 20% above the 1m threshold. GBP. However, if the sale were to take place after the relief was lifted and CGT and income tax rates were aligned, the tax charge would rise to £ 2.25m.
The prospect of such a tax hike has led many anxious business owners to consult their financial advisors. Those who had been thinking of selling in the medium to long term are now wondering if it would make sense to sell much faster.
Still, it’s a difficult dilemma. After all, the current market environment in many sectors of the economy is hardly ideal for getting the most value from a sale. And since buyers well understand the need for a quick transaction, the opportunity to get a hard deal is attractive.
What if the Chancellor also confuses expectations? Sellers who settle for less than they hoped for will be even more disappointed when it turns out that a rushed sale wasn’t necessary after all. These questions are not easy to solve – but a lot is at stake.