Budget 2018: entrepreneurs' relief changes 'ignore commercial share structures'

As of yesterday, entrepreneurs' relief has been restricted so that it will only be available to individuals on disposals of shares where they hold at least a 5% interest in both the distributable profits and the net assets of the company available on a winding up, the UK government announced as part of its Budget.

Entrepreneurs' relief reduces the capital gains tax payable by individuals on gains realised on disposals of shares in companies to 10% subject to a number of conditions. For the relief to apply the individual must be employed or hold an office in the company or group in which the shares are being sold. Up until yesterday, individuals could qualify for the relief if their economic interest in the shares being sold fell below 5% because the rules only required shareholders to hold 5% of the voting rights and 5% of the ordinary shares by nominal value.

"Given the current attitude to tax planning the change is not really surprising and has been the subject of speculation for some time. The speed at which the changes have been implemented clearly means HMRC perceived there to be avoidance," Morley said.

"In the OTS Business Lifecycle Report published earlier in 2018, the OTS said that entrepreneurs’ relief did not achieve its objective and warranted a further review," he said. "Entrepreneurs will be relieved to hear that the chancellor disagreed and entrepreneurs’ relief is here to stay."

"Although the additional requirements are intended to target share structures which enable individuals with less than a full 5% economic ownership to benefit from entrepreneurs’ relief, the changes ignore the fact that companies may have complicated share structures for entirely commercial reasons," Morley said

"Companies with more than one share class will now need to review their terms to ensure that the consideration waterfall they have agreed for commercial reasons will not now prohibit key shareholders, often the founders of the business from qualifying for entrepreneurs’ relief," he said. "Further, as the definition of equity holders used to determine the 5% tests can also capture some debt, the terms of loan notes and other financing will also need to be reviewed before assurance can be given that entrepreneurs’ relief will be available. Shareholders are strongly encouraged to seek early advice in relation to their share structure to ensure they qualify for entrepreneurs’ relief and there are no nasty surprises prior to an exit."

The minimum holding period for the relief to apply is being extended from 12 months to two years for disposals on or after 6 April 2019, it was also announced yesterday. Morley said that “the extension of the qualifying holding period to two years will also affect holders of EMI options.  Qualifying options exercised before the two years period will still benefit from tax reliefs but gains will be taxed at the headline rate of 20%, EMI option holders will not however be subject to the additional 5% tests.”