Insights

When a company is wound up informally there are important tax issues to be aware of, both for the company and for its shareholders; any losses must be accounted for and the relevant tax legislation must be borne in mind when disposing of the company’s remaining assets.

If you are in a position whereby you might wish to wind up a company, you may also wish to utilise any tax planning opportunities in order to minimise your personal tax liabilities. These are likely to involve tax planning in advance and may cover multiple accounting periods and span more than one tax year.

Informal winding up is no longer a universal option

Until recently, it was possible to informally wind up a company using HMRC’s Extra Statutory Concession (ESC) C16. Once approval had been obtained from HMRC, this concession enabled shareholders to withdraw remaining cash and assets from the company in exchange for their shares as part of an informal winding up. These proceeds would then be treated as capital rather than income and the shareholders would therefore pay capital gains tax rather than income tax. Often there was also the benefit of entrepreneurs’ relief; hence tax would be paid at the lowest capital gains tax rate of only 10%, rather than at the much higher rates of income tax.

HMRC have however recently amended this concession so that capital gains tax now only applies where the company’s remaining funds to be drawn by the shareholders are £25,000 or lower. If the company’s distributable funds are higher than this, income tax will be suffered on the entire amount withdrawn by shareholders on an informal winding up. In practice therefore, in order to achieve capital treatment for the shareholders it will be necessary for a company to enter into a formal liquidation by appointing an insolvency practitioner. This will incur additional fees, with the national average being £7,000.

What should clients be aware of when considering a liquidation?

1. Disposing of assets

Usually, assets that are sold off by or on behalf of the company– for instance freehold or leasehold property – will give rise to a capital gain within the company, and this will be chargeable to corporation tax. If the assets are sold to an unconnected third party the gain arising based on the proceeds of sale will be chargeable to corporation tax; if the assets are transferred to the shareholders of the company, open market value will be substituted for actual proceeds, and the gain arising based on that open market value will be chargeable to corporation tax. The corporation tax payable will of course reduce the company’s net funds available to be distributed to shareholders.

2. Allocation of losses and directors’ loans

Any trading losses made in the final 12 months of trading can be carried back for 3 years and offset against profits arising from the same trade. This may of course give rise to a corporation tax refund which will increase the company’s net assets.

3. Distribution of funds

Wherever possible, shareholders will wish to claim entrepreneurs’ relief; in order to do so, any company funds available for distribution must be distributed as capital and where the relief is due, the gain arising will be subject to a capital gains tax rate of 10%. For entrepreneurs’ relief to apply, the following conditions must be satisfied for a 12 month period:

-       the individual must own 5% of the company’s share capital and must have at least 5% of the voting rights;

-       the company must have been actively trading;

-       the individual must be either an officer or an employee of the company.

After April 2013, entrepreneurs’ relief will be more accessible to shareholders who have acquired their shares via an enterprise investment management incentive scheme (EMI). Where their shares in the company were acquired under an EMI scheme, it will not be necessary for the individual to have a minimum 5% shareholding to be able to benefit from entrepreneurs’ relief. It will still however be necessary for the individual to have owned the shares for the 12 month qualifying period prior to disposal.

Should the ability to claim entrepreneurs’ relief not be available, the tax position when comparing capital extraction with dividend extraction, or an element of each, should be considered. This can be a useful strategy in reducing tax liabilities where the shareholder is a basic rate taxpayer.

Winding up a company is a complex area and there are many other aspects to consider which are beyond the scope of this short article. The important point is the advantage of taking a long-term perspective. If you are considering whether or not to dissolve a company, discuss your options with us sooner rather than later, so we can help you to get as much tax relief as possible.

For more information on exit strategy, contact Lesley Stalker on las@rjp.co.uk.