I have always kept in touch with one of my old chums from university, Ian.
Ian has built up a very successful business. It is very much a family concern, with the children and now young grandchildren becoming involved.
The business is based in the North West. Ian asked me about acting for the company when he first set it up but I advised him that he would be better served having a good local accountant close to home (no mobiles, emails, Zoom or Teams in those far off days).
The growth of the business means that it has needed a statutory audit for some time and Ian needed to appoint a larger firm.
Recently Ian called. He had a health scare “I felt the grim reaper touch me on my shoulder” as he eloquently put it. Ian indicated that it made him think about whether he had the right corporate structure in place to avoid unnecessary tax exposure. Ian explained that the auditors were fine but the service was compliance based. “There doesn’t always seem to be a lot of proactive advice”.
I explained that I could only talk in generalities and it would not be professional or appropriate to give specific advice, particularly as I would not have all of the embracing details of the case. “Fair enough” said Ian, pleased that I had set out the ground rules and he went on to broach various issues.
The premises were owned by Ian and let rent-free to his company. “Why rent free?” I asked. “Well I was told that, if I charged rent, I would not be able to claim Entrepreneur’s Relief if I were to sell the property.” I advised that Entrepreneur’s Relief had now morphed into Business Asset Disposal Relief (BADR). The point of the advice was that selling the property along with the business would qualify the premises for BADR and hence a favourable 10% CGT rate. If a commercial rent were charged then this would eliminate the possibility of BADR on the premises. Probably at the time the advice was delivered, this would mean a potential CGT rate of 28%. If the rent was below a market rate, then there would be some BADR but it would be abated. I then went on to expand that this would only be relevant if the premises are to be sold. “Well”, said Ian, “We have succession, unlike so many businesses so I have no intention of selling, unless, of course, there was an offer that we simply could not refuse.”
I responded “In those circumstances, replicated in many family companies, this is planning for something which will not actually happen. Moreover the CGT rate on business assets such as property used in the enterprise, has been reduced to 20%, which lessens the impact. The game changer, though, is that the Chancellor dramatically weakened the impact of BADR in the recent Finance Act. It has been reduced from £10 million to £1 million. After that, the residual gain is taxed at 20%. For many companies, the sale of the premises would be linked with the sale of the company. Indeed, BADR is not available on the premises unless the company operating in the premises is sold. As the gain on the sale of the company would absorb all of the BADR available to the family, then the disposal of the premises would be at 20%, regardless of whether rent has been charged or not. I appreciate the tax regime can change but one can only advise on the basis of the current legislation. I would think, though, that most of people would not bet on an amelioration of tax rates any time soon.”
“Does it matter if rent is not charged?”
Well, I think that companies are missing a trick here. Rent is a far more effective tax deduction than remuneration or dividend. There is no NIC and it offers a tax deduction unlike a dividend which is paid out of post-tax profits. For a higher rate tax payer, the net cost of deduction is 21%. Indeed, the cost of deduction might actually reduce. We have a 1.25% additional levy on employment income and dividend income coming in with effect from 6 April 2022 but not, thus far, on rents.”
“In addition, from 1 April 2023, the main rate of Corporation Tax is increasing to 25%. If personal tax rates remain unchanged, there is then a cost of extraction of just 15% for a higher rate tax payer.”
“Mmm”, said Ian.
We broached Inheritance Tax. Ian and his wife still control the company, although their children have some shares. Ian is considering giving up some shares. “People need to be careful. There is Business Property Relief on land and buildings used in the business, albeit at 50%, providing the owner controls the company. Shares of husband and wife are aggregated together for the purpose of control. Concede control and BPR is lost. Great care is needed.”
Shares and Director’s loan account
“It looks to me”, said Ian “that I am not ticking many boxes. At least my shares and my director’s loan account enjoy 100% BPR.”
“It is a common misconception that a director’s loan account qualifies for BPR but I am afraid it doesn’t. Many businesses would have director’s loan accounts and they do not charge interest on the provision of that finance to their company.”
“Why would one charge interest?”
“Interest confers the same tax deduction advantages as rent.” Ian then intervened “the other thing I would like to do is to help my children educate my grandchildren in a tax efficient way. I need advice there.”
“I think you have all the means to help your grandchildren in the most tax efficient way through use of their personal allowances …”
Ian intervened again. “I think I have heard enough, Paul. I need to engage Lambert Chapman as my accountants and auditors. I know from what you have told me that you have a very strong audit department, which punches above its weight for a firm of your size. I know also that you are members of the UK 200Group which has plenty of representation in the North West to call upon. When you take this together with modern communications, it rather removes the difficulties which you pointed out when I was first looking to appoint an accountant. I also need you on board for specific advice on the issues we have covered”.
How many other companies are operating with tax strategies predicated on advice that has now become outdated?
Please call me on 01376 326266 if your business has similar issues or you have clients who need proactive advice.
The views expressed in this article are the personal views of the Author and other professionals may express different views. They may not be the views of Lambert Chapman LLP. The material in the article cannot and should not be considered as exhaustive. Professional advice should be sought in connection with any of the issues contained in the article and the implementation of any actions.