Bishop Fleming Corporate Finance Newsletter - Summer 2008
Capital Gains Tax – selling your business and the new rules
Several months ago, the Chancellor announced the end
of the taper relief regime which gave an effective 10%
CGT rate for vendors of trading company shares, and an
effective 24% rate for shares in investment companies. The
flurry of old-rules business sales is now over, and we are
inescapably in the new regime. So what does it mean for
selling your company shares?
Firstly, all capital gains (whether from trading or investment company shares) are being taxed at 18%. Unlike the old regime, there is now no minimum period of ownership, so the rate applies however briefly you have held the shares. The 18% rate still compares favourably with income tax rates, so it still makes sense to review deal structures: pre-completion dividend strips will still be an inefficient way of taking cash out.
Secondly, while much has been made by the Government of “Entrepreneur’s Relief”, it is worth far less than you might think. This is a one-off lifetime allowance of 10% on the first £1m of lifetime gains, so this provides a maximum saving of £80k per individual in lifetime tax. Furthermore, it is only available to officers or employees of the company who hold at least 5% of the share capital and 5% of the votes, for a period of one year to the date of disposal. Spouses holding shares in the company will need to satisfy these conditions in their own right. Many employees who have gained their shares through EMI schemes may find they do not qualify under these rules. It may also be of little value to Angel Investors, who tend to be serial investors in several companies, without working in any of them.
Perhaps the right way to look at the new regime is to accept that for every £1m of capital gain, you will now pay a further £80,000 of tax. For example, if you sold your business realising a gain of £5 million under the old rules, you would need to sell it for £400,000 more under the new rules in order to net the same amount of cash.
Tax should not be allowed to dictate the timing and basis of a transaction. The best thing to do is to focus on getting the best price for your business because the new tax rate is here to stay. Then structure the deal in the most tax-efficient manner possible. The new CGT rules will mean that you have to pay more tax (unless you are selling shares in an investment company), but it is much more important to sell the business “well” and maximise your pre-tax revenues.
Is it the time to buy?
Current uncertainty may mean that there are far fewer corporate transactions in the next few months. However, many smaller businesses are sold because the owner needs to retire, or wants to do something else and the timing of the sale is not dependant directly on wider economic considerations. If other buyers are pulling out of the market, there may well be some good businesses that need a new home and this could be a good time for the well-prepared buyer to move.
So how do you plan your acquisition effectively, when banks are more reluctant to lend, and market conditions are uncertain? There are a few golden rules to remember:
- Do your research. List your key criteria, and seek a target that meets those criteria.
- Remember that owner-managers often know the best time to sell. Make sure that you fully understand why they are selling and how serious they are about selling.
- Consider fully synergies with your existing businesses, but do not add the value of those synergies to the asking price.
- Banks will only lend funds that can be serviced by existing cashflows of the target; the rest of the price has to be funded by you, other equity providers, or the vendor.
- There is no point signing heads on a deal that is over-priced, does not consider all potential deal-breakers, or has unrealistic timetables or milestones.
- Ensure that you have proper access for due diligence, including access to management, as well as the books and records.
- Consider what you will do if your post-acquisition targets are
not met. In other words, by how much can you miss your
targets, and still service your debt? - Do not overstretch your own equity. Banks are looking for a
higher equity:debt ratio now, so look for businesses that you
can afford. Be open to the idea of external equity investment.
Finally, make full use of the services of experienced Corporate Finance professionals like Bishop Fleming. We have done this many times with other teams, and have the experience and judgement that you can use. Involve us at the earliest stage, and you will stand a much better chance of avoiding the major traps.