The recent Budget announcement proposed changes to the definition of “personal company” for entrepreneurs’ relief (ER) purposes (read more here). These proposed changes were important as, in order for ER to be available to an individual in respect of a share sale, the company at issue must have been the individual’s personal company throughout the relevant qualifying period (currently one year ending with the date of disposal and increasing to two years from 6 April 2019)
The initially proposed changes were unexpected, complex and created potential uncertainty. They were subject to widespread criticism.
As an update, following consultations pre-Christmas between the accounting profession and HMRC, the Government has announced welcome amendments to the proposed changes. These remove some of the concerns raised in respect of the initial proposals.
Under the revised proposals, with effect from 29 October 2018, a personal company will be defined as one in which a shareholder holds at least 5% of the ordinary share capital and at least 5% of the voting rights and meets one of the following conditions throughout the qualifying period set out above:-
that the individual is entitled to both 5% of the profits available for distribution to the company’s equity holders and assets available for distribution to its equity holders in a winding up or
in the event of a disposal of the ordinary share capital of the company the individual would be entitled to 5% of the disposal proceeds.
As a reminder, equity holders typically would include ordinary shareholders and loan creditors (generally this would exclude banks) in relation to a loan other than a normal commercial loan.
In respect of condition, the Government proposes that to establish whether a company is an individual’s ‘personal company’ at any point in a period, it is to be assumed that the ordinary share capital of the company is sold at the market value on the final day of the period, and that the individual’s share of the proceeds is the amount that it is reasonable to expect they would have been beneficially entitled to in the circumstances in place at the time. It is hoped that examples of how this will work in practice will be provided by HMRC in the near future.
Notwithstanding the original proposals, it is now understood that it was never the Government or HMRC’s policy intention to deny ER by virtue of the proposed changes where a shareholder had at right to at least 5% of the total sale proceeds on the sale of the ordinary share capital of the company. A particular concern of the profession arising from the original proposals was their potential impact on the availability of ER on the disposal of alphabet shares. This concern appears to be reduced under the revised proposals due to the addition of Condition (ii); alphabet shares should potentially qualify for ER where it can be demonstrated, say from the company’s Articles or a shareholders’ agreement, that the alphabet shareholder meets the test set out in this condition.
The revised proposals are a welcome resolution to proposals which originally could have impacted adversely upon relative routine share structures. However, the Government is still looking to introduce complexities into widely understood legislation. We strongly recommend that advice should be taken as early as possible to determine whether ER is likely to be available on a share disposal.