28 July 2011
Company dissolutions – act now or suffer the cost
When, in preparation for a company to be dissolved, its assets are distributed to its shareholders, it may be possible to treat that distribution as a capital receipt in the hands of the shareholder rather than as income. This can be hugely advantageous to the shareholder as capital gains tax rates are as low as 10% under the current tax regime compared with significantly higher tax rates for income distributions. However, the window of opportunity for claiming capital gains tax rates without the expense of a formal winding-up may be effectively drawing to a close and action is required now to take advantage of the outgoing concession.
Since 1985, extra-statutory concession (ESC) C16 has been in place allowing the distribution of assets by a company to its shareholders prior to its dissolution to be taxed on those shareholders as a capital distribution rather than as an income distribution. Under the current tax regime, capital gains in 2011/12 are covered by an annual exemption of £10,600 per individual and can be taxed at rates as low as 10% thereafter even for high earners; whereas income distributions can be taxed at an effective rate of up to 36.11%. This makes the availability of ESC C16 particularly attractive as it is a simple and cost-effective way of returning assets to shareholders without the expense of a formal winding-up.
However, as part of an ongoing project by HMRC to review the concessions currently in place and put them on a formal legislative footing, ESC C16 looks set to be removed. If it was merely being enacted in its current form then this would not be an issue, but the proposed draft legislation adds a £4,000 reserves ceiling which could significantly restrict its practical use. This limit to the maximum distribution for capital treatment to apply will mean that any company with reserves in excess of just £4,000 will either need to suffer the expense of a formal winding-up, or accept that its shareholders will face the higher tax rates applicable to income distributions.
However, C16 is still available at the moment, and companies can apply to HMRC for clearance for the concession to apply subject to certain assurances being given. It is not yet known when the £4,000 limit will start to apply. Primary legislation is not required to place C16 on a statutory basis as existing published concessions can be legislated by Treasury Order, which would be laid before the House of Commons which would then have the opportunity to debate it. There is therefore a limited window of opportunity to make use of C16 and although the date on which this window closes is unknown, HMRC have given assurance that retrospective changes to ESCs will not be made.
As an example of the opportunity currently available, consider a company with reserves of £30,000 which has one director / shareholder - an individual with other income of £60k but no capital disposals in 2011/12. The company ceased trading two years ago and the shareholder would like to extract his £30,000 assets from the company and then dissolve it. If ESC C16 is not used, then income tax would be payable by the shareholder of £7,500 on the £30,000 distribution. If ESC C16 is used then the capital gains tax payable could be only £1,940, a real tax saving of £5,560. If the shareholder waits until after C16 has been enacted in legislation, he would have to consider using a formal winding-up which would be likely to cost at least £4,000 - £5,000.
If you would like Wilkins Kennedy to provide you with more information or advice, or to apply to HMRC for clearance under C16 please contact your local Wilkins Kennedy office.