Tax FAQ's

Caroline Airey in our Tax team deals with some of the commonly asked questions relating to Tax matters for a start up business.

Contact

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Reading,
RG1 4PN

Telephone
+44 (0)118 951 6200

Email
enquiry@fsp-law.com

Caroline Airey

Vicky McDonald

What are the key tax differences of operating as a sole trader or a limited company?

What are the key tax differences of operating as a sole trader or a limited company?

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Sole TraderLimited company

Tax on profits:

  • You pay Class 2 & 4 National Insurance and Income Tax on the taxable profits of your business, or your share of profits, if you are in partnership.

Tax on profits:

  • The company pays corporation tax on its taxable profits. Company tax rates are lower than higher rates of Income Tax.
  • Employees and office holders are subject to PAYE and NICS on their earnings from employment and many benefits attract income tax too.
  • Shareholders are subject to income tax on dividends.

Extracting profits

  • You may withdraw cash from the business without tax effect.

Extracting profits

You are taxed on:

  • Any income withdrawn from the company. If it is a distribution it is taxed as a dividend. If it is earnings it is under PAYE and subject to NICs.
  • Most employment benefits received by you or your family and household are taxable (subject to tax-free exceptions).
  • Shares or securities in the company which are given to you at less than market value.

Selling the business

When the business or assets used in it are sold, you are personally taxed on any gain under the Capital Gains Tax (CGT) rules.

  • A disposal of an interest in a business or a disposal of business assets may qualify for CGT Entrepreneurs’ Relief.

Selling the business

When the business or the assets used in it are sold, there is a double tax charge on shareholders. The company pays corporation tax on any profit that it makes on disposal. The shareholders are taxed on the distribution of the proceeds.

  • It may often be more efficient to sell the shares in a company, rather than its trade or business, or individual assets.
  • Company shares can be gifted.
  • Providing you own more than 5% of a trading company, a disposal with gains of up to £10 million may qualify for CGT Entrepreneurs’ Relief.

What is SEIS and EIS relief?

 

What is SEIS and EIS relief?

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Under the Seed Enterprise Investment Scheme (SEIS) new companies can raise seed capital: it provides 50% tax relief for investors investing in start-up companies, with also a generous Capital Gains break.

 

  • The maximum amount an individual can invest into an SEIS company is £100,000 per tax year.
  • The maximum amount of investment that a qualifying company can receive is £150,000.

 

The Enterprise Investment Scheme (EIS) provides tax incentives in the form of a variety of tax reliefs to investors who invest in smaller, unquoted, trading companies.

 

  • The maximum amount an individual can invest into an EIS company is £1 million per tax year.
  • The maximum amount of investment that a qualifying company can receive is £5 million.

What are EMI schemes and Employee Shareholder Status Schemes?

What are EMI schemes and Employee Shareholder Status Schemes?

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Scheme What is it?Tax treatment

Approved share option scheme (usually an EMI scheme)

 HMRC approved scheme giving employees ability to get shares in a tax efficient manner.

No tax on granting the option.

No tax on exercising the option (as long as the employee pays an exercise price that represents the market value of the share at the time the option was originally granted).

CGT on sell the shares, hopefully at a reduced 10% rate

Employee Shareholder Status (or ESS) shares 

A HMRC approved arrangement under which shares can be given to an employee if they surrender certain employment rights

If value of shares issued is exactly £2k then no income tax charge for employee on issue of shares.

No CGT is payable by the employee when they sell the shares.

What are the requirements for Entrepreneurs’ Relief (ER)? 

What are the requirements for Entrepreneurs’ Relief (ER)?

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You can claim ER (which reduces the rate of capital gains tax you pay on the first £10 million of gains you make in your lifetime to 10%) for disposals of any of the following:

 

  • all or part of a trading business; 
  • the assets of a trading business after it has stopped trading; and/or 
  • shares in a trading company (or holding company of a trading group). 

 

You can claim relief on proceeds from a partial or full sale of a business, shares in a company, or on the value of any business assets remaining after the company has ceased trading.

 

 

The relief is available for you as an individual if you:

 

  • are in business, for example as a sole trader or as a partner in a trading business; or 
  • hold shares in your personal trading company (or holding company of a trading group).

 

In order to claim ER several conditions must be met:

 

1. You must have owned the business (or the shares) for 12 months before claiming the relief, or for 12 months before the date the business stopped trading.

 

2. It is essential that the business must be a trade and the activities must not include any non-trading activities that are substantial. The word “substantial” is not defined but HMRC accept that non-trading activities that make up no more than 20% of a business will not debar a claim for ER. When considering this test surplus cash can present problems. Cash that is not required as working capital or earmarked for capital expenditure or future business investment, may risk loss of ER as a substantial non-business asset. If you are building up cash reserves for a major purpose keep records of meetings and research done into possible acquisitions to prove that the money is retained for business purposes. This test must be passed throughout the 12 months before you want to claim ER.

 

3. If claiming ER on shares, a shareholder can qualify for ER as long as the company is their personal company. This means that for at least a year ending with the date of the disposal, the shareholder has been a director or employee, and has owned at least 5% of the ordinary share capital carrying at least 5% of the voting rights. Once the 5%test is passed other shares such as preference shares and certain types of loan note (non-qualifying corporate bonds) can also qualify for ER.

 

4. If claiming ER on shares it is important to remain an employee or an officer until the date the shares are sold. Therefore, if contemplating withdrawing from a business any resignation should not become effective before the contract for sale of the shares has become unconditional. Similarly, a non-employee shareholder (e.g. a spouse who owns shares but is not an employee) who meets the 5% test can qualify for ER by making them an employee or office holder (usually company secretary). There is no minimum working time condition, so long as the employment or office genuinely exists.