Shareholding & Tax implications
This topic has come to light on a number of occasions in recent months based on the projects we have been involved with and meeting with prospective clients who are planning for exit. The purpose of this blog is to highlight some of the issues we have seen for shareholders and how their shareholdings will impact on the various tax reliefs available on sale of a business or transfer to the next generation. The main reliefs we are going to look at are Retirement Relief [RR] and Entrepreneurs Relief [ER] for Capital Gains Tax [CGT] and Business Property Relief [BPR] for gift and inheritance tax. We will look at an example to focus on the Capital taxes reliefs mentioned above.
Love Island Productions
Luke and his wife Demi own a very successful film production company that produces Love Island and other reality tv programmes and sells them onto one of the main TV stations in the UK. They have worked hard to grow this business over the last 30 years and both have worked full-time for the company from the very start. There are 100 shares in issue of which Luke owns 92 and Demi owns the other 8. Demi was appointed as a Director in January 2017. Luke is 65 and Demi is 62. Their son Callum has worked full-time in the business for the last 5 years. Luke & Demi are looking to exit and want to pass on all their shares to Callum and walk hand in hand on a deserted island. The company is worth €5 million and Luke and Demi wanted to meet and see if they could pass on the business tax-free to Callum.
Firstly we will look at Retirement Relief [RR]. If you want to find out more about RR see a link to our blog on this. https://www.comerfordfoley.ie/blog/post/8268/Business-Exit-Planning-Retirement-Relief/ The key point here is that the shares are in a trading company. It is a family company for Luke as he owns 92% and as he has been a full-time working director for more than the last 10 years he meets all the conditions to qualify for RR on the disposal of the shares to Callum. Therefore there would be no Capital Gains Tax on the share transfer to Callum.
One of the most important issues for Luke is to ensure that the transfer to Callum happens before he’s 66 as once he reaches 66 there is a cap on the value of the transfer at €3 million. Therefore for a company worth €5 million Luke would pay no CGT on the first €3 million and pay 33% on the balance above that which could be a CGT bill of up to €660k. Here’s a cake but by the way you owe a few bob in CGT!!
For Demi RR doesn’t work for a couple of reasons. Firstly it is not a family company for Demi as she doesn’t own at least 10% of the shares. Even though her husband owns the other 92% it is still not a family company for her as the minimum she needs to hold is 10%. Also she falls down on the Director test as she is not a Director for 10 years prior to the disposal. Of the 10 years she would have needed to be a full-time working director for 5 years in the 10 year period. As she can’t avail of RR let’s look at Entrepreneurs Relief [ER]. See link to our previous blog on ER https://www.comerfordfoley.ie/blog/post/8217/Business-Exit-Planning-Entrepreneurs-Relief/
For this relief to work for her she has to hold 5% of the shares which she does. She has to have owned the shares for 3 years prior to disposal and has to have spent more than 50% of her working time in the service of the company in a managerial or technical capacity. Therefore she will qualify for ER and will pay 10% CGT on the transfer of the shares to Callum rather than 33%. If we assume her 8% holding is worth approx. €80,000* then she would pay CGT of €8000 on the transfer.
Callum receives a gift of 100 shares from both his parents that have a combined value of €5 million. He will have to pay stamp duty at 1% on the value of the shares so that’s a cost to him of €50k and that has to be paid quite quickly after the date of transfer. The major concern for Callum is gift tax and he wants to find out if he can avail of Business Property Relief [BPR]. The stakes are high at a gift tax liability on that value could be up to €1.54 million.
Business relief is available on gifts or inheritances of relevant business property. This would include unquoted shares of a company carrying on a business and in this scenario Callum would qualify for BPR. It is a very valuable relief as it gives a 90% reduction in the value of the business property being transferred. Once Luke and Demi have held the shares for 5 years prior to making the gift then they have met their requirements. Prior to applying the relief Callum would get a deduction for the Stamp Duty paid.
|Value of unquoted shares||5,000,000|
|Less Stamp Duty Paid,||50,000|
|Business Property Relief – 90%||4,445,000|
|Less Parent to child threshold||335,000|
|Less Small gift exemptions x 2||6,000|
|Gift Tax Payable @ 33%||50,820|
|Less Credit for CGT against Gift Tax||8,000|
|Net Gift Tax owing||42,820|
The total tax cost of transferring the shares to Callum is just over €100k being 2% of the value of the company so very tax efficient.
The BPR and RR are subject to clawbacks so that if Callum disposed of the shares within 6 years of getting them he would have to pay the CGT that Luke didn’t pay and he would also pay the CGT on the uplift in value from the time he got them. Let’s assume that after 3 years of getting the shares from his parents Ant & Dec Ltd came in and offered Callum €8 million for his shares in Love Island Limited. Callum would pay CGT as follows;
|Value of shares transferred to him||5,000,000 @33%||1,650,000|
|On uplift assume he qualifies for ER||1,000,000 @10%||100,000|
|Total CGT owing||2,410,000|
|BPR Clawback would be||4,445,000 @33%||1,466,850|
|Total CGT & Gift Tax owing||3,876,850|
I would be stepping out to the toilet before breaking the news to him! For BPR the clawback can be avoided if the business property is replaced within a year of the event that triggers the clawback so if Callum reinvested the proceeds in other business property with a year of selling his shares he could avoid it.
* For the purposes of valuing shares in private companies there are certain valuation methods to be followed and there is a large percentage discount for minority holdings
When looking at family companies the taxes at stake highlight the vital exercise of putting a proper plan in place to prepare for selling or transferring the business to the next generation. While company Directors don’t have to know all the ins and outs of the various tax reliefs available it is important that the correct shareholdings, periods of ownership and director requirements are in place for the business, so that reliefs can be maximised.
We are hosting an event at the end of next month on advising family businesses that will cover many of the aspects of selling or transferring a business and planning for this. This is an invitation only event and if it’s something you would be interested in attending please contact Deirdre on 051 396703 to express your interest.