Welcome back to Ireland’s award winning & straight-talking finance blog & podcast, where we are on a mission to share ideas and information that hopefully helps you make decisions that delivers long term results for you. Thanks for the lovely reaction to last weeks’ episode, I certainly enjoyed sharing the story! This weeks’ topic is kinda closely related to the oul’ lizard-brain and relates to entrepreneurship!
We are not tax experts but it has been asked of us a few times recently so this week we will share some info about how ‘entrepreneurs’ can stand to benefit from a pretty significant chunk of relief……of the financial sort.
A Short Story:
Maria Dalmation set up a dog grooming company back in 2010, called ‘I Shitzu-Not’ Limited (I don’t think I’ll ever make it in advertising!). Anyway, she had a steady start, and then when she won a national dog-grooming title for her grooming skills her business took off. For the 4 years from 2013 to 2017 she had revenues each year in the region of €200,000, business expenses including wages of €100,000 meaning she had profits of €100,000 per year. She did pay corporation tax at 12.5% on the money in the business each year however the company had value of €550,000 at the end of 2017.
Maria Dalmation had an epiphany in January of this year, she wanted to leave the grooming business, it was time for a new adventure, to pursue her love of discovering and documenting Mongolian Cave Art (please understand I had to make this really random so as to avoid the chances of anyone coming forward to claim I was talking about them!). So she sought to leave it all behind, and sell the business to a colleague that had been working with her for the past few years.
Maria’s business at that stage was worth €750,000 (including shares and assets), she sells it for €750,000 and pays a measly €75,000 Capital Gains Tax on that sale of her shares in the business. She pocketed, perfectly legitimately and appropriately, €675,000 of the €750,000 sale price. To put that in context had she sold an investment, property or other asset other than a limited company on which she had the same gains she would have paid Capital Gains Tax at 33%, equating to €247,000, meaning she would have pocketed €500,000. A simple thing now called ‘Entrepreneur Relief’ has reduced her tax liability on disposal of her business by €175,000.
What Is Entrepreneur Relief?
Entrepreneur Relief offers business owners a reduced rate of Capital Gains Tax on ‘chargeable gains’ on full or part disposal of certain business assets. This relief from Capital Gains Tax (note it only applies to CGT) was brought in with the Finance Act 2015 and was tweaked to increase the relief from 20% CGT to 10% CGT this year, making it quite attractive. It is intended for individual ‘entrepreneurs’ in order to stimulate activity and start-ups, and allow them to build, create economic activity and then to make it attractive to move on and build again, I guess!
It certainly wasn’t intended as a tax evasion mechanism for existing business who have no intention of liquidation or disposal to wrangle the system, however there is probably a fair amount of that now being done! For that reason I believe that Revenue have advised many that business cash may well not qualify as a an appropriate business asset.
Much like any of these reliefs, there are always loop-holes which people avail of in the early stages, and often these loop-holes are closed-off once they become popular……it will be interesting to see if the same happens here!
Anyway, it is a really decent source of relief as it stands, a 23% reduction on the tax rate (from 33% to 10%) on disposal of your shares of a business. It essentially removes one of the greatest challenges for people who want to build business, sell them and move on, and which will no doubt support the now swelling culture of entrepreneurship here in Ireland.
The % of the population that are self employed here in Ireland currently stands at 15% approximately. Apparently if we go back 100 years the rate of self employment was upwards of 70%, prior to industrialisation and in fairness probably also prior to the decline of agriculture. More on that another day. So perhaps if things keep going as they are we’re heading for something similar!
The Maximum Relief:
The maximum tax saving that you are permitted to get is €230,000, or to look at it another way a limit of €1m worth of disposal, and that is a lifetime figure, you cannot go over that amount of relief no matter how many times or how many different businesses you start and subsequently dispose of. That is a really important aspect to be aware of.
Who Can Claim Entrepreneur Relief:
As we saw above Maria had a regular (and successful) business here in Ireland, doing regular activity that most SME’s here do. The relief does apply to both sole traders and limited companies. In the case of a sole trader they suggest that the individual must have owned the assets 3 of the 5 years prior to the disposal date, and that those assets were used for the purposes of a “qualifying business” being carried out by that same individual.
Irrespective of your company’s size once you can tick the following boxes revenue suggest you may be eligible for the relief:
- Assets being disposed of and on which relief is being claimed must have been owned by that individual for a continuous period of 3 years in the 5 years prior to disposal
- Individual must own ‘not less than 5% of the ordinary shares in the qualifying company’
- Individual must own ‘not less than 5% of the ordinary shares in a holding company of a qualifying group’. They go on to state explain holding company and qualifying group and point out that relief will not apply where there is a dormant company or non-trading company
- The individual must have been a director or employee of the qualifying company (or companies in the qualifying group) and who spent not less than 50% of his or her time in the service of the company in a managerial or technical capacity, and to have done so for a continuous 3 of the past 5 years at disposal
They suggest that relief does not apply to the following assets: shares, securities or other assets held as investments, development land, or assets held outside the company structure, even if used in the company. It also states that relief does not apply if the disposer remains connected with the company following disposal…..you’ve been warned! See the full details in Revenue’s revised Entrepreneur Relief manual here.
What Are The Challenges?
The above may seem fairly straight-forward however like all things tax there is often finer detail and complexities that make it less so. Lots of people change from sole-trader to limited company, lots of people have different investments and assets and complexities in their business structures that can make the preparation for relief less than simple. As a result it would certainly be advisable to seek specific tax advice on your own preparation for disposal, if that was what you were thinking.
You may have no intention of disposing for at least 10 years, will the conditions and relief be the same then, well nobody knows!
Compared To A Pension?
Pensions, as we all know offer tax relief however in a very different way to Entrepreneur Relief. On the face of it it will be obvious that if you have the assets and are keen to sell, liquidate or restructure in order to benefit from the relief you could potentially come away with the lion’s share of what you get out of the business.
Pensions, for most of us are a medium to long term strategy. They can get cash out of a business extremely efficiently, and make provision for the future. They can, in certain circumstances facilitate a business owner to get cash out of the business entirely without having to sell, dispose or liquidate the company, albeit they may have to wait some years to get access to their lump sums. As I write I do think this will be a really interesting exercise to do a financial comparison of Entrepreneur Relief and Director’s Pension Planning (which we did a wee episode on a few weeks ago in Blog 79 or Podcast 96)
My gut reaction is that a suitably effective Retirement Plan which maximises revenue pension allowances combined with maximising the Entrepreneur Relief could potentially be a really interesting way to go, but we’ll see!
There are limits on it, there are conditions that must be met, you may need to liquidate if you can’t sell for some reason, you may incur other fees, you may not get the relief, you may not have any real gains on which to claim relief, you may not want the hassle of disposing, restructuring or liquidating but hey if it all works out there is no doubt that you could stand to potentially get a really considerable chunk of relief when and if the time comes.
Like anything we discuss it is surely advisable to seek individual guidance on this, to consider your plans, to figure out what is the best strategy or not for you, and simply because I can’t go without closing without a pun linked to what I opened with, to ‘paws’ for thought!
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