Our tax system can play a vital role in encouraging business owners to grow and develop companies and spread their sales channels to a much wider geographic base. To do this, the government needs to ensure our tax system is fit for purpose and competes well within both our closest neighbours and other competitor countries.
In this environment, succession planning, through either handing the business on to the next generation or selling the company to a third party, becomes very important.
There was great hope up the run-up to the budget that the 10% Capital Gains Tax (CGT) rate for entrepreneurs relief would have the ceiling of €1 million raised. However, it is disappointing to see this did not happen albeit Finance Minister Paschal Donohoe did indicate he is looking at the regime.
A bit of relief
Entrepreneurs relief and retirement relief can be availed of by many shareholders irrespective of the industry sector their company is focused on, depending on their circumstances.
Entrepreneur relief applies a reduced rate of 10% to gains on the disposal by individuals that satisfy various conditions, including a minimum shareholding in the company and a minimum period over which the shares are held.
There is no age limit on this relief and although there is a lifetime limit of €1 million currently on such gains, a significant increase in the lifetime limit is hoped for following the review sanctioned by the Minister.
A similar relief in the UK applies a 10% rate of CGT for disposals of shares for a lifetime limit of £10 million, clearly a much more beneficial regime.
On the other hand, retirement relief typically only applies to people over 55 years of age and is reduced where persons are 66 or over.
For sales to independent third parties, a tax-free disposal can be achieved for sales proceeds up to €750,000 for an individual aged between 55 and 65. For those aged 66 or over, the ceiling reduces to €500,000.
When it comes to sales and gifts of businesses to family members, there is no ceiling on the consideration where the individual disposing of the shares is aged between 55 and 65.
For those aged 66 and above, relief from CGT applies to the person disposing of shares up to €3 million of chargeable assets.
In certain circumstances where retirement relief is claimed, the entire disposal of the business could potentially be exempt from tax – depending on both the mix of assets within the business, whether they all qualify for the relief and whether the shareholder or business owner qualifies for the regime.
Despite the name, there is no requirement for the business owner to retire from the business.
Being able to remain actively involved in the business, especially if passing on the business to the next generation, can aid a successful handover and ensure the future success of the family business.
There is a clawback mechanism that applies where a business within the scope of the relief is passed on to a family member and that family member, in turn, disposes of it within six years of having acquired it.
Retirement relief and entrepreneur relief can at times be combined with a company law mechanism that provides for a company to buy back its shares from exiting shareholders.
While this is generally treated as being equivalent to a dividend payment for the individual from whom the shares are acquired, in certain limited circumstances the individual is treated as having disposed of their shares to the company. In this case capital gains tax applies together with the associated reliefs to the extent the individual qualifies for them.
The benefit of this mechanism is that it tax-efficiently utilises the cash generated by the business over the shareholder’s involvement in it, where CGT applies. The general dividend treatment is taxable at marginal rate income tax.
A typical situation where the potential for the reliefs to apply is an individual, who is a shareholder and director, retires from the business to make way for new management and shareholders.
Unlike the position for retirement relief, there is an expectation for the retiring shareholder to leave the business and cease to have any shareholding or any involvement, but a limited handover period may apply.
If retirement involves passing on the family business to other family members, CAT relief may be used to mitigate the tax burden on the family member continuing the business.
Business property relief may apply to the receipt of the business subject to certain conditions being met. Business property relief reduces the taxable benefit of relevant business property by 90%.
This relief can apply to a wide range of businesses, as well as to agricultural property which does not qualify for a separate CAT relief, agricultural relief.
Akin to the CGT relief available on retirement where the acquirer is a family member, there is a clawback provision that applies in certain circumstances.
If CGT and CAT are both due on, say, a parent passing on a business asset to a son or daughter, the parent being charged with CGT, a credit for the CGT paid or payable by the parent is taken into account in arriving at the CAT payable by the son or daughter.
If you would prefer to sell a business with no tax on the sale, you could consider having a holding company in place owning the shares in the trading business. The sale of the shares in the trading subsidiary can be tax-free for the holding company.
It is essential business owners meet their tax adviser regularly when considering a sale of their business or passing the company onto the next generation.
Although this is critical approaching retirement, to best utilise the reliefs available, it is advisable to formulate an exit plan from the business with your tax adviser over 10 years before exiting the business so there is peace of mind regarding the business and financial security post-retirement.
It is not possible to see into the future, but with careful advance tax planning, it is possible to be in the best tax position for both you and your family.
This first appeared on Fora.ie on the 17th November 2019.