HMRC are now issuing letters to taxpayers whom they believe have made claims for Business Asset Disposal Relief (BADR), formerly Entrepreneurs’ Relief, on their 2021/22 tax returns in excess of their lifetime allowance. Agents will also be sent a copy of the letter.
What is BADR?
BADR is a capital gains tax (CGT) relief intended to incentivise individuals to grow and invest in their businesses by reducing the rate of CGT to 10% on material disposals of business assets that fall within a taxpayer’s lifetime allowance.
Qualifying Business Assets
To qualify for BADR, assets must have been owned for the two-year period ending on the date of disposal and fall within one of the categories below.
- The whole or part of a sole trade or partnership business.
What is meant by the disposal of a whole business is clear but where only part of a trade is disposed of, that part must be capable of being carried out in its own right if it is to qualify for BADR.
- An asset used in business at the time the business ceases to trade.
In the case of a sole trade, it routinely the case that there is a delay between the cessation of the business and the disposal of assets used in that business, and so provided the asset is sold within three years of the date of cessation, the BADR qualifying conditions will not be breached.
- Shares or securities in a company in your “personal trading company”.
For this purpose, a trading company is one where any investment activity is not undertaken to a substantial extent. HMRC will consider whether there are substantial non-trading activities in the round such that this test will be applied to criteria such as turnover, asset base, management time and expenditure. A company is a personal company if the taxpayer is an employee or director and the shareholding criteria are met. This is discussed in key changes section below.
Key Changes
- From 29 October 2018 – The personal company conditions are extended such that in order to qualify, the taxpayer must hold at least 5% of both the ordinary share capital (based upon nominal value) and voting rights of the company, and either:
- Be beneficially entitled to at least 5% of the company’s distributable profits and 5% of the assets on a winding up available to equity holders, or
- Be entitled to at least 5% of the proceeds on the sale of the company’s entire ordinary share capital (in determining whether this test is met at any time during the requisite two-year period, the whole of the ordinary share capital is deemed to be sold at its market value on the last day of that two-year period).
Please note that there is no requirement for the personal company tests to be met by shareholdings acquired under an Enterprise Management Incentive scheme.
- From 6 April 2019 – The minimum qualifying period of ownership is extended from one year to two years.
- From 11 March 2020 – Reduction in the BADR lifetime allowance to £1 million.
The effect of the March 2020 rule change is that gains realised after 10 March 2020, which would otherwise qualify for BADR, would only benefit from the reduced 10% tax rate to the extent that a taxpayer’s historic claims for the relief were less than £1 million.
This significant reduction will have inevitably caught some people out, with the result that they are now in the position of owing an additional 10% tax plus late payment charges on the capital gains realised.
For reference the lifetime limits in force for earlier years were:
- £1 million for the two tax years ended 5 April 2010
- £2 million from 6 April 2010 to 22 June 2010
- £5 million from 23 June 2010 to 5 April 2011
- £10 million from 6 April 2011 to 10 March 2020
- £1 million from 11 March 2020
What you need to do now
Taxpayers who have received a letter from HMRC need to review their historic BADR claims and, where total claims in excess of the £1 million lifetime allowance are identified in the year to 5 April 2022, they will need to amend their 2021/22 Self-Assessment Tax Returns to remove or reduce the BADR claim to the lifetime limit of £1 million.
If a taxpayer believes that the letters have been sent in error, they need to contact HMRC and explain their position.
Failure to take any action by the date noted in the letters may result HMRC opening an enquiry or amending the 2021/22 tax return.
Shareholders whose holding has been diluted below 5% as a result of commercial fundraising should take advice on whether a dilution election should be made.
Shareholders who otherwise do not qualify for BADR should take advice on whether Investors’ Relief applies to their circumstances, which can also secure a 10% tax rate when the qualifying conditions are met.
Should you need any assistance in this regard or any other matter pertaining to whether your circumstances qualify for a BADR claim, please contact us on either info@claritastax.co.uk or 0121 726 1717.
