Entrepreneurs’ Relief (ER) is available to most individuals. Despite the name, it’s not just for entrepreneurs who have started their own business and subsequently look to sell all or part of it. ER can be used by employees who own shares in a business, or it can also be used by some beneficiaries and trustees of interest in possession settlements. Spouses and civil partners are also entitled to make their own claim for ER so long as they meet all the required qualifying conditions.
Who cannot claim Entrepreneurs’ Relief?
- Limited companies
- Personal representatives of deceased individuals
- Trustees of a discretionary settlement
How to qualify for Entrepreneurs’ Relief
To ensure you will be able to claim ER, qualifying conditions need to be met. The requirements will be dependent upon the individual and their relation to the business, the business itself, and what is being disposed of.
- Disposal of all or part of a business
Where you want to claim ER for the sale of all or part of your business, you must either be the direct owner of the business or a member of a partnership-owned business. You will need to have held this position for a minimum of two years prior to the date of disposal. Previously the qualifying period was 12 months, but this has since increased to 24 months as of 6 April 2019.
Any business assets sold independently in a sale of the business will be liable to capital gains tax (CGT) and will not qualify for ER. For example, if you sold an office space which you previously worked out of, but were continuing to run your business elsewhere, you would not be able to claim ER for any profit made on the sale. However, where the sale of the office space is included in the overall sale of your business or part of your business, then you would be able to claim for ER.
The business or business assets sold must be operating or used for commercial trading purposes. This effectively excludes assets which are held as part of the business for investment, such as property that has been rented out.
- Disposal of goodwill as part of a business sale
Goodwill is an intangible asset that is associated when a business is sold in its entirety to another business. By selling goodwill as part of the business you can receive a higher value price than the total sum of identifiable tangible assets such as buildings, equipment or employees etc. Assets that will make up goodwill can include your brand’s reputation, a stable customer base, patents and more.
From 3 December 2014, if your business is sold to a close company where you or any ‘relevant connected person’ owns at least 5% of the ordinary share capital, any profit made on goodwill will not be eligible for ER. A close company is one in which there are five or fewer ‘participators’ (often shareholders for small businesses but can include debentures where the company has issued debt finance), or where all the ‘participators’ are also company directors. The exception to this rule is where you sell your shares in the close company within 28 days of the disposal of your business to the company.
It’s useful to note that even where this rule applies and you’re unable to claim ER on the goodwill of the disposal of your business, you may still be eligible to claim ER on the rest of the business assets.
- Disposals of shares
To be able to claim ER on the disposal of shares there are both qualifying conditions that the individual needs to meet as well as rules on the type of business in which the shares are being disposed of.
For the individual, you must either be the business owner, partner, employee or officer of the company. Again, you will need to have held this position for a minimum duration of two years by the date of the disposal of the shares. Furthermore, you will need to own at least 5% of share capital and have 5% of voting share capital.
The disposal of shares will only qualify for ER where the company is operating as a trading company (or a holding company of a trading group). The company does not need to be making a profit as trading at a loss will still qualify. If the business engages in a mixture of both trading and non-trading activity, then it can still be eligible so long as no more than 20% of the business activity is non-trading.
- Disposal of shares from Enterprise Management Incentive (EMI) scheme.
There is an exception to the rules for ER when it comes to the disposal of shares where the shares have been acquired through exercising an EMI share option. The employee or holder of the EMI option does not need to have 5% of the share capital or voting rights and can still claim ER. Moreover, the period in which the EMI option is held as an unexercised option counts towards the two-year qualifying period and there is no need to hold the actual exercised shares for two years.
- Disposal of trust business assets
Trustees may seek to claim ER when they dispose of trust property. However, they are unable to claim as an individual themselves. Instead, they must rely on a ‘qualifying beneficiary’ to be willing to share their lifetime allowance (currently at a £10 million limit) and submit a claim by way of joint election. A qualifying beneficiary is someone with a life or absolute interest in possession under the trust, who must also meet the standard qualifying conditions outlined above.
To be able to claim ER on the disposal of shares of a company, the company must have been the qualifying beneficiary’s personal company, and a trading company for at least one year by the date of the trustees’ disposal, or no earlier than three years before the date of disposal. Throughout the same one-year period, the qualifying beneficiary must have been an officer or employee of that company and they must have had the interest in possession throughout the period.
Where the trustees are claiming ER on the disposal of assets used for the qualifying beneficiary’s business, similar rules apply. The asset must have been used for the qualifying beneficiary’s business for at least one year, ending within 3 years up to the date of disposal. The qualifying beneficiary must no longer be carrying on the business at the point of disposal, or again within the period of 3 years before the date of disposal. Finally, the qualifying beneficiary must have had the interest in possession throughout the necessary one-year period.
Don’t forget, although it is important that you meet the qualifying conditions as the person claiming ER, there are additional rules that will depend on the business and what type of business asset is being disposed of. Further information can be found here.