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Danby Bloch: Why industry must fight for entrepreneurs’ relief

Danby BlochThis important tax relief is at risk of being abolished in the upcoming Budget.

“Quite likely the worst tax relief in the UK”, was the harsh verdict on the hitherto relatively uncontroversial entrepreneurs’ relief from think-tank the Resolution Foundation last month. It looks as if this relief will need some vigorous defence if it is to survive the upcoming Budget.

Let’s recap its main outlines. Capital gains tax entrepreneurs’ relief has operated since 2008. Before that, there was a more limited but misleadingly labelled “retirement relief”, which did not require the claimant to retire in order to claim it. Claimants of the relief will pay 10 per cent CGT on all gains on qualifying assets, rather than the more normal 20 per cent.

The main qualifying assets are all or part of a business as a sole trader or business partner, and shares or securities in a personal company (i.e. one in which the claimant has at least 5 per cent of shares).

The relief also applies to assets the claimant has lent to their business or personal company, and shares they have received under an enterprise management incentive scheme since April 2013. Trustees can also claim entrepreneurs’ relief if they are disposing of qualifying assets.

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The relief is subject to an aggregate lifetime limit of £10m per claimant and most of the conditions to claim it have to be met for at least the 12-month period running up to the disposal. The HM Revenue & Customs website is packed full
of information if you need to
know more.

Sticking points

So, why does the Resolution Foundation characterise entrepreneurs’ relief as being of “very little merit indeed”? Mainly because of questions around whether it provides value for money.

HMRC has estimated the relief was worth a total of £2.7bn in 2017/18 and the Resolution Foundation reckons the total amount over 10 years has been £22bn.

It complains that most of the benefits go to a small minority – a few thousand claimants who are mainly rich, male, a bit elderly and living in the South East.

It questions whether the relief really incentivises those people who start businesses.

Indeed, it says very few that have established SMEs were actually aware of it when they first invested.

It also states entrepreneurs’ relief’s biggest impact is in distorting certain business decisions, notably to incorporate and not to draw earnings or dividends out of companies.

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Support needed

What should advisers’ response be to this? Well, first let’s get rid of the last point. Entrepreneurs’ relief does not incentivise incorporation. As we have seen, the relief applies just as much to unincorporated businesses.

And deciding to reinvest in a business rather than draw dividends generally seems to be a worthy outcome of an incentive.

If you think entrepreneurs’ relief is worth defending, then this is the time to start saying so loud and clear to fellow Money Marketing readers, MPs, newspapers, websites, Twitter and so on. Because there is a strong case for its defence, even if the Resolution Foundation does not think anyone will be prepared to make it.

Entrepreneurs’ relief is one of the most important contributing factors to have made the UK an enterprise-friendly environment; one where people want to set up small businesses and work on growing them.

There is a serious danger that a cash-starved chancellor could trim or even abolish it in the upcoming Budget.

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It is now commonplace for men and women – young and old – to set up SMEs. I hesitate to draw on ancient history but I clearly remember when I was in my 20s, my goal and the aim of my friends was to work in large organisations like the civil service, BBC or an oil company. The SME world was barely on our horizon.

Now entrepreneurs’ relief is part of the generally welcoming landscape for SMEs and those starting up businesses recognise that even if they do not yet know the details.

Not that the attitudes of people starting up in business should be the most important criterion. The knowledge and understanding of more experienced and perhaps serial entrepreneurs is a more important indicator of the relief’s importance and value.

The fact that relatively few people get the lion’s share of entrepreneurs’ relief is an indication of how far there is still to go in nurturing successful SMEs.

It takes time to change a climate and it is not helped by constantly threatening and fiddling with the rules.

Danby Bloch is chairman of Helm Godfrey and consultant at Platforum

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Comments

There are 8 comments at the moment, we would love to hear your opinion too.

  1. Do I detect more than a hint of this being personal Danby?

    Personally I can see the arguments fore and against the relief, but I don’t have particularly strong feelings one way or the other.

    However that said, there is a very strong argument to say that a disproportionate part of the income tax burden is borne by those who are employed and paying massively much higher rates of tax than the self-employed, who can control their own taxation and effectively pay much lower rates, as well as their ability to offset all kinds of expenses.

    Yes there needs to be incentives towards those starting businesses that will employ people and deploy capital into the economy. However as far as I know claiming Entrepreneurs relief doesn’t require you to demonstrate ever having employed anyone but yourself.

    So if we take a classic example of the “self employed consultant” who runs themselves as a business (either incorporated or not), were they employed and earning say £100kpa, they would be paying higher rate tax, employee’s NI and effectively also employers NI, to give an overall top rate of tax paid on their earnings as circa 55%.

    Now take the SE employed contractor, running their business from home, able to claim lots of expenses and able to structure their income so that they pay no more than 7.5% dividend tax. They let the spare income they don’t need actually paid out to them roll up within the company paying 18% corporation tax. They then retire at a later point, paying 10% CGT on that, giving them an overall effective tax rate of a maximum of 26.2%. I.e less than half that paid by someone employed.

    However what advantage to the country is them being self employed? Does it benefit the economy? In reality it probably is actually detrimental to the economy, as all that money rolled up in the company is not being put back into the economy, where when paid out it might be.

    As such I belief that it should be there for real entreprenuers, who take genuine risks, employ people and grow the economy, but why should it be yet another tax break for those who have already had massive tax breaks and who get massively preferential taxation treatment over those who are employed?

    • So Duncan do I therefore assume you are an employee? The difference is that you get sick pay, unemployment benefit, paid holidays and goodness knows what other benefits. (Healthcare, Pension contributions, subsidised canteen etc) while all the while relative to the self employed – you have job and income security.

      Yes the self employed have certain advantages, but they put it on the line. In our business, capital adequacy for starters. Being self employed is open to anyone with the guts and self- determination. In the words of Göethe:

      Du must herrschen und gewinnen
      Oder dienen und verliveren

      You must be a master and win,
      Or Serve and lose

    • Your examples mix up self-employed and limited company contractors/consultants methinks.

  2. Well said Danby! I personally benefited from this.

    The Resolution Foundation probably wouldn’t recognise an entrepreneur if it fell over one.

    People who start a business take risks, make sacrifices and work harder than those employed. Without them the economy stagnates. They are the lifeblood. Creating jobs, adding to GDP, paying tax and all the while wrestling with red tape and the nay sayers.

    Surely it is wise to give them every encouragement and the cost in the scheme of things is really peanuts. On a cost benefit analysis it’s a no-brainer.

    Most who start a business don’t even know (or consider) this relief at outset. Too many don’t realise that it exists, or if they do, how to take full advantage of the provisions.

    Do away with it and we are back to those who sell moving abroad (Monaco, Andorra, Malta and Belgium – if Belgium still has no CGT) to mitigate CGT. So then the Resolution Foundation and HMRC get nothing at all.

  3. Have to agree with Duncan. Entrepreneurs relief is not to my mind a benefit i would try hard to defend.

  4. Duncan Gafney.
    Yes indeed there’s some personal interest here. I have benefited from ER in the past and may do so in future. But that is hardly the point. Anyway I have individually and corporately paid oodles of tax in the past as a director, employee, self employed person and investor.
    Your suggestion that ER would mainly or even frequently apply to owners of money-box companies is probably not warranted. This is what the HMRC guidance says on the subject of such investment activities, which do not generally qualify for the relief:

    “the long term retention of significant earnings generated from trading activities may amount to an investment activity. The first point to consider is whether or not there is any identifiable activity distinct from the trading activity.

    Factors to consider include:

    whether the earnings are retained for the present and future cash flow requirements of the trading activity.
    the nature of the underlying investments used as a lodgement for the funds, for instance if the funds are locked into long term investments or the investments themselves are high risk that may suggest that they are not available for the trading activity.
    the extent of the company’s (or group’s) activity in managing the investments.
    whether the funds have been ear-marked for a particular use in the trading activity.
    If a separate investment activity is identified then it will become necessary to determine whether that is substantial in terms of the overall activities.”

  5. Being able to only pay 20 per cent CGT without any ER is already a great deal. Entrepreneurs who feel they merit even more of a good deal are entitled to their view of course. Maybe if CGT rates were much closer to 40 and 45 per cent income tax rates then there might be a case for retaining ER.

  6. I wonder how many who are not in favour of ER actually run their own business? It does rather appear that the wage slaves are having fits of green eye.

    I don’t get it, so you can’t.

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