One of the few notable announcements in the Budget on 29 October 2018, introduces significant changes to the qualifying conditions for entrepreneurs’ relief.

One fundamental change came into effect immediately with others coming into effect from 6 April 2019.

Before the budget announcement the basic conditions for a shareholder to claim entrepreneurs’ relief on a disposal of his/her shares in a company were as follows:

Throughout the qualifying period of 1 year the company had to be:

  • his/her personal company
  • either a ‘trading company’ or the holding company of a ‘trading group’
    and he/she had to be either an officer or employee of that company (or of one or more members of the trading group).

A company was a personal company if the shareholder owned at least 5% of the ordinary share capital and that holding gave them at least 5% of the voting rights in the company.

Subject to the Finance Bill 2019 being enacted, for gains arising after 29 October 2018, two further conditions were added for the personal company condition to be met. From 29 October, the seller must also have at least a 5% interest and entitlement in the distributable profits of the company and 5% of the assets available to equity holders on a winding up of the company. The extension of the conditions is to ensure that those shareholders who qualify for entrepreneurs’ relief have a genuine economic entitlement to 5% of a company.

These additional conditions mean that all equity arrangements will have to be reviewed carefully in determining whether any particular shareholder qualifies.

For example, the existence of preference shares and loans to directors and/or shareholders may affect the 5% economic entitlement of the shareholder in question. A crucial point here is that a shareholders’ own loan may cause them to fail the entitlement condition as the wording states that the shareholder must be entitled ‘by virtue of that holding’ i.e. they must have 5% economic entitlement by virtue of the shares held.

What is unclear, is how these new rules are applied in regard to alphabet shares and dividend waivers. How HMRC will interpret this change in law and apply this to specific scenarios is unknown.

Two further changes will come into effect from 6 April 2019:

  • The minimum holding period for entrepreneurs’ relief will be extended to 2 years. This will apply to all types of disposals where the minimum holding period applies e.g. disposal of shares, material disposals of business assets, associated disposals etc.
  • The final change will allow shareholders to create a capital gain that qualifies for entrepreneurs’ relief at the point that their shareholding falls below the requisite 5% holding.

If you would like to chat through any tax issues please contact Pete Edwards.