There are many benefits of carrying out a company formation to run your new business. For those businesses with a great idea and the potential to grow their company into a large empire worth millions, there are many things to consider. Capital gains tax is one of them. For any business the future can be an exciting prospect.
You'll put blood, sweat and tears into your business and watch it grow. In the future, you want to make the most of all your efforts, without letting the taxman take a large slice. Luckily, with the current state of the economy, the government has noticed the importance of small business to the financial stability of the Country and as a result are keen to encourage growth. One of the measures they have put in place to do this is Entrepreneurs' Relief.
What is Entrepreneurs' Relief?
The Entrepreneurs' Relief scheme was originally started back in 2008 with the intention of giving some tax relief to SME's with regards to capital gains tax. An individual is given a lifetime limit (previously £1million - now raised to £2million under the new budget) under which they are given relief from capital gains tax.
What is Capital Gains tax?
Tax is charged at a rate of 18% on any capital gain made by an individual in the course of running or disposing of a business. "Capital gain" is defined by HMRC as "...the amount by which the disposal value of a chargeable asset exceeds its acquisition value." In layman's terms this means if when selling an asset you make more money than you actually paid for it, then you will be liable to pay tax on that profit at the current rate (18%).
How does Entrepreneurs' Relief help?
The Entrepreneurs' Relief scheme means that any individual making a capital gain, will not have to pay the full tax rate (18%) but instead will only be required to pay a lesser rate up to their lifetime limit. As long as they satisfy the necessary criteria.
The capital gains and capital losses must be balanced to come up with a net figure. That figure is then subject to relief, calculated thusly:
This 'net gain' is...reduced by 4⁄9 and the reduced figure is chargeable at the rate of Capital Gains Tax - 18% for 2009-10 but at an effective rate of 10%.
To clarify 4/9 is roughly 44%. So if you had a capital gain of £100,000, then you would find 44% of this figure (100,000 x 0.44 = 44,000) and that figure is then taxable at the standard capital gains tax rate, rather than the entire amount. You can see that this is quite beneficial for entrepreneurs as it provides substantial tax relief. With relief, you pay £7,920 tax on a £100,000 gain, without it you would pay £18,000! When you consider that Entrepreneurs Relief is now set to a lifetime limit of £2million you can see the Government are making a substantial subsidy for business people.
What are the qualifying criteria?
There are certain specific qualifying criteria which need to be satisfied in order to benefit from Entrepreneurs' Relief. Firstly the gain must have been made on assets used in/by the business or assets owned by the relevant person but used by the business. The claim must be submitted within a year of the disposal and apply to:
- Disposal of whole business - which the individual owned.
- Ceased business - assets sold 3 years after business ceased trading (?)
- Sale of shares of your personal company*
- Associated disposal - basically disposal from a partnership
*personal company is defined as a company in which a person holds at least 5% of the ordinary share capital (and the voting rights that go with it).
Getting there
If you've got a great idea and can see it being worth a lot in the future, then you'll need to be aware of things like this. Carry out a company formation with a formation agent and make sure you have the most tax efficient company possible. These are the first important steps to making the most of your business idea.
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