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Changes to the Rules on Company Distributions

Written by Jon Cooper

One short paragraph in the 2015 Autumn Statement document announced that “The government will publish a consultation on the rules concerning company distributions later in the year.” This consultation document was indeed published at the end of last year and has introduced two new words to the world of taxation – moneyboxing and phoenixism.

Moneyboxing is the scenario where Retained Earnings are allowed to accumulate in a Limited Company over a number of years to be extracted via a solvent liquidation, known as a Members’ Voluntary Liquidation (MVL). This allows the final distribution to be treated as capital rather than income making it subject to Capital Gains Tax. This ensures that the Capital Gains Annual Exempt Amount for each shareholder is utilised which often goes unused. For the 2015-16 tax year this is £11,100.00.

More significantly, in the vast majority of cases, the shareholder would be entitled to Entrepreneur’s Relief which would result in the remaining distribution being taxed at a rate of 10%.

Phoenixism is where the shareholders set up a company to trade for a short period. They then set up a new company carrying on the same or a substantially similar business and use the MVL route to extract the funds as capital from the first company to achieve the same tax benefit. After another period, a third company is formed and the second company liquidated and this cycle can continue.

Given that an individual’s lifetime limit for Entrepreneurs Relief is currently £10m, there is ample scope for this process to be repeated on multiple occasions.

A similar set up to phoenixism is the use of special purpose companies. Often operated in the property development sector, here a business subdivides into separate companies for particular projects with each company then liquidated when the project is completed.

The motivation for the proposals to change the rules concerning company distributions is the seismic reform on the way in which Dividends will be taxed that comes into effect from 6th April 2016. Throughout February, we will be publishing a series of newsletters, guides and holding a Q & A on the new Dividend taxation regime.

Suffice to say, Dividend distributions will be more heavily taxed than is currently the case. In turn, this would increase the incentive for a business owner to opt for their remuneration to be taxed as capital rather than income.

The government is looking to block that option in cases where the business owner is essentially going to carry on the same business in another vehicle.

Although the consultation runs until 3rd February, the draft legislation has already been prepared to be included in the 2016 Finance Bill and to come into force from 6th April 2016.

The current draft legislation states than when a company is wound up via an MVL and the shareholders receive a capital distribution, if an individual or a connected person either carries on a trade or activity that is the substantially the same or is a shareholder of another company that undertakes a similar activity within two years of the date of the distribution, then their distribution will be treated as income and taxed accordingly.

It is important to underline that the MVL will remain the best approach from a tax perspective for those solvent businesses that are being wound up due the business owner retiring, relocating or moving on to new challenges.

In addition, the draft legislation may be modified as a result of the consultation. The full consultation document is here with responses needing to be emailed to adrian.coates@hmrc.gsi.gov.uk by 3rd February.

We will be monitoring the final legislation as part of our comprehensive coverage of the 2016 Budget that is scheduled for Wednesday 16th March.

In the meantime, if you have any questions or would like to discuss your circumstances, please email us at welcome@cooperfaure.co.uk for an initial, free consultation.

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