Following a turbulent start to 2020, some families may now decide the time has come to hand over the baton to the next generation. But what are the tax consequences of doing so?
Gifting shares in the family business has a CGT consequence as the gift is deemed to take place at 'open market value' and in most cases, the market value will not be known. The open market value is the estimated value of the shares if the transaction took place between a willing buyer and willing seller. Tax would then be payable on the gain, which is the difference between the cost of the gifted shares and their value. In many cases this can create a 'dry tax charge' which means tax becomes payable even though no money changes hands.
Fortunately there is a tax relief available that avoids the dry tax charge. However this only applies where the gifted shares are in an unquoted trading company. The majority of family businesses will be unquoted and this makes the valuation of the shares more complicated and can come at the cost of paying a professional to carry-out the valuation. The valuation can be avoided as the tax relief allows the donor to 'hold-over' the capital gain. In essence this means the capital gain is deferred until the donee disposes of the shares at a future date.
To claim the relief the company’s main activities must be trading, so this would generally rule out residential buy-to-let property companies.
In some cases the donor may not want to holdover the capital gain if the gain is eligible for Business Asset Disposal Relief (previously known as Entrepreneurs’ Relief) at the reduced tax rate of 10%. Claiming this relief would uplift the base cost of the donee to the open market value but it would then be necessary to value the shares. This is often a red flag to HMRC to open an enquiry and challenge the valuation.
Another potential issue on gifting shares to an employee is the risk HMRC may treat the value of the shares as earnings under the Employment Related Securities rules. There is however an exemption available for family and personal relationships when this is in the normal course of a domestic or personal relationship.
For more information on the issues raised in this update or to discuss your individual circumstances in detail, get it touch with your usual Crowe contact.