You’re selling shares in a company which because of recent changes to the rules don’t qualify for the special low entrepreneurs’ relief rate of tax. What steps can you take to replicate it or achieve an even lower tax bill?
CGT rates
When you sell an asset for more than it cost you the difference is taxable as a capital gain. The rate at which it will be taxed varies depending on the type of asset sold and whether any exemptions or reliefs apply. The standard rates of capital gains tax are 10% and 20%. Which one applies depends on whether your capital gains when added to your income fall in the basic or higher rate tax bands.
Guaranteed 10% CGT rate
If you make a gain from selling all or part of your business, including shares in a company of which you’re a director or employee, you can qualify for entrepreneurs’ relief (ER). If you do, the CGT rate you’ll pay on the gains (up to £10 million) is 10% even if you would otherwise have been liable at the 20% rate. The trouble is changes to the rules in 2018 make it harder to qualify for ER. So what can you do to reduce the tax bill if you don’t qualify?
EIS investments
Investing all or part of a gain into an enterprise investment scheme (EIS) investment might allow you to achieve a tax rate equivalent to the 10% ER rate or perhaps something better (see The next step ).
Tip 1. For every £1 you invest in an EIS investment you can defer indefinitely the CGT payable on £1 of gain you make from the sale of your shares – this is known as deferral relief. The gain then only becomes taxable when you sell or transfer your EIS investment.
Tip 2. An EIS investment also qualifies for income tax relief which reduces your liability by 30% of the amount you invest (see The next step ).
EIS deferral planning
Deferral relief not only delays when you pay CGT but opens up the possibility of reducing the tax.
Tip. By spreading the sale of your EIS investment over a number of years you can use your annual CGT exemption and reduce your tax.
Example. In 2019/20 Ben made a capital gain of £112,000 from the sale of shares in Acom Ltd to which ER didn’t apply. Because he’s a higher rate taxpayer he would pay CGT at 20% on the gain (after knocking off his annual exemption of £12,000) resulting in a tax bill of £20,000. Ben invests £100,000 in an EIS investment and defers the whole gain. He spreads the sale of his EIS investment over four years so that £25,000 of the original gain becomes taxable in each year. His CGT annual exemption reduces the amount taxable. Assuming the exemption is £12,000 he would pay CGT of £10,400 on the deferred gain which is £9,600 ((£25,000 – £12,000) x 20% x 4).
Tip. If Ben was married he could transfer, say, half of his EIS investments to his spouse and make use of their annual CGT exemption. This could reduce the tax on Ben’s deferred gain to almost zero.
You can defer the taxation of a capital gain by investing in an enterprise investment scheme investment and then selling it in stages over a few years. Part of the gain is released each time. You can then deduct your capital gains tax annual exemption from the released gain to reduce the tax payable.