Stuart Crook, Partner at Wellers, explains what Entrepreneurs’ Relief is and looks at how the upcoming Budget could change the policy.
Share this article
Tax breaks are not a new idea. They have been around for decades and all serve a different purpose, from encouraging further investment and fostering new start-ups, to attracting foreign business.
In the UK there are approximately one thousand tax relief policies available, but that doesn’t mean they don’t ever come under scrutiny. One of the more contentious policies that exists in the UK is Entrepreneurs’ Relief (ER).
What is Entrepreneurs Relief?
Originally introduced by Gordon Brown’s Labour Government back in 2008, ER was positioned as a tax relief that would encourage further investment in British business. In essence, it works by reducing Capital Gains Tax (CGT) from 20 percent to 10 percent on the first £10m of qualifying gains earned upon a company’s closure.
The idea being that the money a business owner would save in tax, is then reinvested into a new business venture which further supports the UK economy. It was also introduced to replace retirement relief that had seen business owners rewarded for growing and developing their businesses.
ER can also be claimed against shares of a trading company, company assets or personal assets associated with a business.
Why is it changing?
Although the aim of ER is to encourage further business investment, that isn’t always what happens. Many of the company owners that benefit from ER do so when they sell their business at the end of their working life, and so use the revenue to support their retirement.
Therefore, they may not funnel the revenue back into UK businesses. The older argument, that Entrepreneurs should be rewarded for generating tax collecting businesses seems to have been lost in the political debate.
Similarly, the policy was seen to be exploited by those working on a freelance or contract basis. For example, up until recently, it was entirely possible to run all income as revenue through a private services company, if you worked for yourself.
By doing this, an individual could take home income via dividends, which are not subject to the same rate of taxation as traditional income. This model also means that National Insurance Contributions can be minimised or avoided altogether.
Remaining profits were built up and taken as capital because the entrepreneur relief offers such a good tax rate.
There is also no limit to how many times ER can be claimed, as long as the £10m lifetime cap is not exceeded, and it is not affected by an entrepreneur’s personal tax bracket. So even if they do pay a higher rate of tax, they can still benefit from ER.
Further to this, ER is reported to have accounted for £2.3b of lost tax revenue in 2017-18 alone. Three-quarters of that was shared between just 5,000 individuals, which means they each received an average tax break of £350,000.
That is a significant sum, especially for a new Government which has announced the biggest increase in day-to-day public spending for 15 years. The Conservatives have also stated that its plans will not be funded by increased rates of income tax, national insurance contributions or VAT.
This, coupled with the fact that ER is already a contentious subject, makes it likely to appear firmly on the agenda come Budget day.
How could it change?
Until recently, it wasn’t known for definite if ER was going to be changed at all. Previous chancellors have tried many times to amend ER, George Osborne being one of them – although he never had the majority support that he needed to implement any real reform.
However, following Sajid Javid’s resignation from Boris Johnson’s cabinet, it seems more likely than ever that change is on the horizon. In fact, it was recently reported that the new Chancellor, Rishi Sunak, is planning on scrapping ER altogether when he reads his first Budget on 11th March.
This has brought its own controversy, with many small business owners claiming that it will “destroy retirements”.
What does this mean for entrepreneurs?
If you are planning on selling, it means you should seek professional advice. The earliest that change could take place is 11th March, when the new Budget will be read in parliament, so if you want to take advantage of the current tax system, now is the time to do so.
Make sure you talk to your accountant to get the best advice on the various tax options available and ensure you remain compliant.