The old well-known proverb: “you get what you pay for” could be no truer for these recent transactions. As advisors, we are constantly telling our existing or new potential clients that tax is complicated, and you should ensure you get good advice. But it is all too easy to forget that good advice doesn’t come cheap, and this precise point is a material factor for new startups, where cash is certainly king!
In an ideal world, good advice (whether tax or otherwise) is highly recommended at all stages in the lifecycle of a business. As advisors, we know it will be worth it in the end. Arguably good advice in the start-up and growth phase of a business is even more essential. There are a lot of tax reliefs available for start-up growing companies and their investors, many of which we see are taken advantage of by those in the technological sector.
All of these areas provide tax advantages providing much needed capital and a number of reliefs for the business. However, due to the generous nature of these reliefs, HMRC are keen to ensure the use of them is closely monitored. With this comes complex tax legislation, which is littered with traps. It is ironic that the tax reliefs and advantages aimed at supporting these businesses and their investors are the very thing that can trip them up and, in some circumstances, will defeat the aim that the relief was aiming to achieve in the first place! In the age of a tax system that strives for simplification, this is certainly not the case for these key reliefs.
It is always best to be forearmed and forewarned, there are a few topical tax issues that have arisen during recent tech sector transactions which are useful top tips to share but are also applicable to transactions in any sector:-
Enterprise Investment Scheme (EIS) and Seed Enterprise Investment Scheme (SEIS) tax reliefs are commonly used by investors who subscribe for shares in qualifying companies. There are many conditions that need to be met in order for the investor to obtain the associated income tax relief and/or capital gains tax reliefs. The relief is only available for those investing in the riskier businesses and for the relief to preserved, careful attention needs to be paid, not only at the time the investment is made, but also usually for three years afterwards. Actions taken outside of the control of the investors can result in the withdrawal of valuable tax reliefs. All decisions by companies with EIS and SEIS investors will need to be made with this in mind to ensure there are no ramifications.
Where shares are acquired by directors, officers or employees by reason of their employment or office holding, they are considered as ERS. The legislation is widely drafted and can apply to most share acquisitions. Where ERS are acquired at undervalue tax charges can arise. Advice should be sought prior to shares or other securities being acquired. The tax valuation of any shares or securities should always be quantified, and so should the need to consider the making of relevant elections and other reporting requirements.
An Enterprise Management Incentive (EMI) scheme is a government backed tax efficient share option scheme.
The conditions for the company, employee and general requirements for EMI schemes are vast and onerous. There are also a number of essential requirements which must be included within the legal documents for the options. Based on our experience there are a surprising number of options that are not valid and result in the tax favoured benefits of the scheme being lost, which can be expensive and highly demotivating for the option holders.
Valuations should always be obtained prior to the grant of options and all administrative requirements associated with the scheme should be met including the essential filing of the notification to HMRC within 92 days of grant of the option. There are also a number of essential requirements which must be included within the legal documents for the options, and if these are not present then the tax benefits can be lost.
R&D tax relief is only available for companies undertaking qualifying activities which seek to achieve an appreciable improvement to science or technology through the resolution of uncertainty. Claims can only be made by companies which are a going concern. R&D claims made by SMEs can reduce taxable profits or can result in a repayable cash credit for the company. All claims submitted with the corporation tax returns should be fully supported with accompanying reports detailing and substantiating the qualifying projects undertaken and expenditure to verify the claims made and defend any challenge from HMRC and any future buyer.
Ahead of any transaction process it is always worth considering a tax ‘health-check’ in the form of a vendor due diligence process so that any issues identified can be managed by the seller and solved proactively, rather than being put on the back foot and trying to explain and solve tax issues during an already stressful deal process.
It is imperative to ensure that the legal documentation to implement the advice is reviewed from a tax perspective. Far too often documentation isn’t thoroughly reviewed, and mistakes are identified when it is too late to remedy any errors and instead it leaves the shareholders immensely disappointed, usually because certain parties now have significant tax bills!
The overall message here is that most tax reliefs are reliant on stringent conditions being met and for the legal documentation to be accurate. Investment in advice is essential.
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