Analysis - Taper relief pitfalls and planning.
Most business owners and company finance directors will now be aware of capital gains tax taper relief. The level of awareness will of course vary.
Many will not yet appreciate how it affects them, nor realise that in some instances it will be ten years before the 10% rate will be achieved – even for trading businesses. This lack of knowledge might particularly affect those who have been in business for many years, who might incorrectly assume that they have already reached the 10% after four years’ position.
This is not the case, and such people will need to wait until 6 April 2002 at the earliest for this rate to be secured. For such people, and more recent shareholders, in many cases, action now can lead to substantial future savings.
Taper relief on chargeable gains was introduced on 6 April 1998 as a replacement for the former indexation allowance. For business assets, under the 1998 rules, a 10% effective tax rate could be achieved after ten years of ownership compared to 24% on non-business assets held for the same period.
However, the conditions for qualifying as a business asset were quite restrictive. For instance, an individual had either to hold 25% of the shares in a trading company or to hold 5% and work full time in the business.
Under the new rules, shares in a trading company or in the holding company of a trading group are business assets with effect from 5 April 2000 if the company:
– is unquoted;
– is listed but the shareholder is an employee; or
– is listed and the shareholder has 5% or more of the voting rights.
In other words, the qualifying conditions have been greatly relaxed.
Many more shareholders will now qualify.
In many cases, where shares qualify as business assets, so do any loan stock or similar securities, depending on their precise terms.
If the company is carrying on non-trading activities this may jeopardise the availability of business taper relief. Similarly, a company involved in a joint venture may not always qualify as a trading company.
These changes mean that while the rules for non-business assets are broadly unchanged, it is now much easier for shares and other securities to qualify as business assets and for the 10% rate of capital gains tax to be achieved after a mere four years. Whilst this is good news, it will be a surprise to some to learn that (say) shares acquired before 6 April 1998 as non-business assets which have become business assets under the new rules will not reach maximum taper relief until 6 April 2010.
– Individuals falling into this category include:
– Employees of unlisted and listed companies holding less than 5% of the shares;
– Shareholders of listed companies holding more than 5%, but less than 25% of the shares;
– Shareholders of unlisted companies holding less than 25% of the shares.
It is particularly important for shareholders in these circumstances to plan ahead to maximise business asset taper relief. It is possible, for example, that action taken now will achieve a 10% rate as early as 2004.
Another factor to bear in mind is that the 10% rate, when attained, must be safeguarded. There are several ways in which a shareholder could successfully climb up the four-year ladder to 10%, only then to slide down the snake back to 40%. Going back to square one can mean a further ten years to regain 10%. The rules of the game must not be broken, and must be carefully observed before any move.
Some shareholders or their boards will have plans on topics such as exit or succession. Many do not, but the sea-change to taper relief announced in March means that there could be a great benefit to be gained by reviewing their position now. It is important to review whether the company is a qualifying company and identify any non-trading activities that could restrict the amount of taper relief available to the shareholders in future.
Changes in a company’s share structure or activities can inadvertently bring about a huge increase in the shareholder’s tax liabilities.
– Allan Beardsworth is a partner in the Manchester office of Deloitte & Touche.