Entrepreneur Relief – Not So Simple?
Entrepreneur relief from Capital Gains Tax (“CGT”) was introduced to reduce the rate of CGT applicable to sales of businesses or shares in companies by entrepreneurs. The relief was part of the stimulus package introduced to encourage and reward those who take risks which benefit the economy. Entrepreneur relief, in its current guise, was introduced in Finance Act 2015 and came into effect from 1 January 2016.
The relief reduces the rate of CGT to 10% (from the current standard rate of 33%) in respect of sales of qualifying assets. The relief currently only applies to the first €1 million of gains. The maximum tax relief available is therefore €230,000 per individual.
The relief was not of significant value prior to 1 January 2017 as, in 2016, it only operated to reduce the CGT rate from 33% to 20%. Due to the value of the relief since the reduction of the CGT rate from 1 January 2017 to 10%, it is now necessary for advisers to reconsider traditional tax planning mechanisms and for entrepreneurs to consider their business structures to ensure that same do not preclude future claims for Entrepreneur Relief.
The conditions for the relief vary depending on whether the assets being disposed of are shares or assets used for the purposes of a sole trade.
In the case of a sole trader, the individual must have owned the assets for a continuous period of three out of the five years ending with the disposal and the assets must be used for the purposes of a “qualifying business” carried on by the individual. Broadly, a qualifying business is anything other than the holding of investments or the development or letting of land.
In the case of shares in a company, the criteria may be summarised as follows:
- The individual must own at least 5% of the ordinary share capital of the company;
- The individual must have owned the shares for a continuous period of three out of the five years ending with the disposal;
- The shares must be shares in a company which carries on a qualifying business or in a holding company of a group where each of the subsidiary companies carry on a qualifying business; and
- The individual must have spent not less than 50% of their working time in the service of that company (or the group, as appropriate) working in a technical or managerial capacity and must have done so for a continuous period of three out of the five years ending with the disposal of the shares.
The above conditions may appear certain and easily satisfied however a number of potential pitfalls exist. Some of the issues which have arisen to date include the following:
- The impact of interspousal transfers and whether the ownership period of one spouse can be aggregated with that of the other spouse.
- The potential denial of relief where there is an investment company or a dormant company in a corporate group.
- Whether, due to the working time requirement, an entrepreneur with multiple directorships/employments may be precluded from claiming the relief if they have not formed a corporate group.
- The impact of incorporation of a sole trade. Unlike for Retirement Relief, the period of trading as a sole trader cannot be aggregated with the period of ownership of shares where Section 600 relief from CGT applied on the incorporation of the sole trade.
- The interpretation of the word “development”. As set out above, the development of land is excluded from the definition of “qualifying business” and therefore does not qualify for relief. Does this mean that building contractors, carpenters, plumbers etc should be denied relief? It is assumed that such businesses should not be caught as long as the entity does not develop the property for sale, however the point has not been clarified.
- Whether Entrepreneur Relief is available if a trading company is sold and its holding company is then liquidated.
Due to the tax savings which may arise where the relief is available and the potential pitfalls, Entrepreneur Relief should be considered in detail before any business assets or shares are disposed of by an individual.
In addition, the relief should be considered before any corporate restructurings, incorporations or interspousal transfers are implemented as it will be necessary to ensure that such transactions do not preclude the relief from applying to future transactions.
It should be noted that Entrepreneur Relief and Retirement Relief can apply to the same transaction. As both reliefs are mandatory where the relevant conditions are met, an individual’s Entrepreneur Relief threshold could be eroded with no tax benefit arising if such a situation arises. Effectively, any gain arising would be taxed at the 10% rate under Entrepreneur Relief and then the CGT would be relieved by Retirement Relief. The structure and timing of transactions should therefore be considered for individuals approaching their 55th birthday or individuals who are over 55.
Lastly, it should be noted that Entrepreneur Relief is expected to be enhanced over the next few years. The provisions may therefore be amended in the forthcoming budget.
If you have any questions on the matter of Entrepreneur Relief or would like to find out whether you qualify for the relief, please contact us for further information or to arrange a consultation.