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Entrepreneurs’ Relief

Entrepreneurs’ Relief is an attractive tax relief enabling individuals to pay a 10% tax rate on certain gains, such as holdings of at least 5% in the voting shares in a trading company provided these have been held for at least a year and the individual is an employee or a director in the company.  Although subject to a lifetime limit on gains of £10 million, the relief can save up to £1.8 million in tax payments; extremely valuable to most. 

With such a potential benefit it was a common planning tool for individual lenders to invest in shares in a company that then lend that money onto a company or limited liability partnership that had been formed with a third party to undertake an entrepreneurial venture.  Such structuring enabled investors to be treated, for tax purposes at least, as entrepreneurs and to be eligible for the 10% tax rate on the gains made.  Of course the company would also have paid corporation tax on the profits that it made on the venture, typically at 20%, such that the overall rate of tax suffered was 28%.  However, this was still better than the 40%, or 45%, income tax that would have been suffered if the activity had been undertaken by the individual in a personal capacity.

If you are thinking that lenders are not true entrepreneurs, you are not alone.  In the first Budget of 2015, the Chancellor made some technical changes to provisions surrounding Entrepreneurs' Relief, the effect of which was to stop investors in these finance type companies being able to benefit from Entrepreneurs' Relief.  These technical changes have hit a number of investors who will no longer be eligible for Entrepreneurs’ Relief and will now be faced with a 28% tax bill on their gains, as opposed to the 10% they were probably expecting when they invested.  If the company is subject to UK corporation tax at 20%, the overall tax rate suffered by the individual will now be over 42%; 50% more than before the technical changes were made.

However, despite the changes above, lenders can still benefit from Entrepreneurs' Relief by investing directly into the trading company.  This will provide a different set of corporate risks to consider and this maybe less attractive to a lender who is looking to preserve the capital value of the loan.  Depending on the exact circumstances, it may also be possible to reorganise activities such that Entrepreneurs' Relief can still be accessed but this will require action to be taken.  

Whether you are currently considering investing in a trading venture, or are already involved in one, having the structure reviewed for tax effectiveness is probably worthwhile given the technical changes made earlier this year.

 

Ian Daniels
Head of Property
Partner, haymacintyre

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