Alan Pink compares the tax position for groups of companies with a single company owning several divisions.
Nothing in tax planning stays put. If we were looking at the question of whether a single company, organised in divisions, is better or worse than having a group of companies a few years ago, the considerations would have been different from what they are now. And it does seem as though recent changes have had the effect of making the decision to form a group of companies easier from a tax planning point of view.
I’m talking here about the choice between having a single company (let’s call it X Limited) that runs a number of different businesses, or runs its businesses in a number of geographical locations, each of which is substantial and separate enough to be regarded as a ‘division’ of the company.
An alternative to having them all together, of course, is to form a separate group company for each activity. So, X Limited (say) instead of having a soft toys department, a watches department, and a computer equipment department, could form three subsidiaries, Soft Toys Limited, Watches Limited, and Computer Equipment Limited. I’ll be referring to this choice of alternatives as the ‘division’ option and the ‘group’ option.
Commercial considerations
Tax planning doesn’t exist in a vacuum, of course, and anyone running a business needs to balance commercial considerations against tax considerations where they conflict. So, let’s look first at the commercial advantages of the division option. I can think of two more advantages, commercially speaking, over a group, depending on the circumstances:
- It may be easier to get a good credit rating for a single large company. This is because credit rating agencies go by track record, and also by the perceived strength of a company’s balance sheet, according to the accounts most recently submitted to Companies House. Sometimes, a subsidiary looked at in isolation doesn’t score so well on either of these counts. A sensible credit rating exercise, of course, would take into account a subsidiary’s membership of a larger group; but in the real world, credit ratings aren’t always done on the most sensible basis, as a number of readers will no doubt have found to their cost!
- Accounting is more straightforward and, therefore, cheaper in a single company than it is in a group of companies. In a group of companies, every transaction between the different parts has to be recorded twice, once in each of the companies. And the headache of reconciling intercompany accounts in a group is something that every book-keeper, accountant, and auditor will be very familiar with.
Commercial considerations favouring a group
On the other hand, and almost as if it were deliberately setting out to balance things, there seem to me to be two major commercial advantages of the group option:
- Having each separate activity in a separate company naturally has the effect of ‘ringfencing’ liabilities where anything goes wrong financially (see Example 1 below).
- The process of buying part of a larger undertaking is easier where that part is separated out in a separate limited company. You’ve still got the issues of whether that company is supplying or receiving services from other companies at non arm’s length rates, but generally speaking, someone doing the ‘due diligence’ on an acquisition of Soft Toys Limited has less to look at than someone who is looking at disentangling the Soft Toys transactions from the overall activities of X Limited.
Example 1: Group vs division
X Limited has gone down the division option and runs divisions, one, two, and three. Y Limited has chosen the group structure and, therefore, it is the holding company of One Limited, Two Limited, and Three Limited.
In each case, the activity number two suffers a major financial downturn and makes heavy losses. In the X Limited structure, these losses impact directly on all the activities of X Limited.
In the Y Limited structure, in the worst case, its subsidiary, Two Limited, will go bust, and the impact on the rest of the group will be limited to any amounts owed by it to other group companies, or amounts that other group companies owe to it.
Tax considerations
As I say, tax planning isn’t the whole of business, and you have to take these non-tax considerations into account. But when we come on to consider the tax planning aspects, in my view we are now looking at a situation where tax can very substantially favour the group option. Let’s have a look at some of these factors.
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In the event of a division of a company being sold, any capital gain will be chargeable to tax on the company. So, if somebody buys the computer equipment division of X Limited, paying a large premium because of the goodwill of that division (for example), X Limited will have a gain chargeable to corporation tax. Subject to meeting the detailed rules (which in practice is not usually difficult), a sale of a subsidiary company, by contrast, will normally be covered by the substantial shareholdings exemption. This provides exemption for any sale of a trading subsidiary company in which the selling company has held at least 10% of the shares for a defined period. So, under the group option, it’s possible to sell off parts of the overall group activity without incurring any tax.
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If assets (such as goodwill) have been transferred between group members, there is no tax on this transfer, but the tax ‘comes home to roost’ if the transferee company is then sold within a six-year period. This is an argument for making a group of companies out of what is perhaps a previous single company sooner rather than later.
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A strong argument against running a group of companies used to be its effect on the corporation tax rate payable. When there was a ‘main rate’ and a ‘small companies rate’, the definition of a small company depended on dividing an overall threshold by the number of companies under common control. So, every time you added another group company, there was the possibility of increasing the amount of corporation tax you had to pay. This has all now been swept out of the window, with all companies now paying a flat corporation tax rate of 19% (note, however, that the Labour manifesto is suggesting reintroducing some kind of system similar to the old one.)
Losses, etc., carried forward
Another recent change (applying from 1 April 2017) also has the effect of making it easier to arrange corporate financial undertakings in groups of companies.
This change relates to the treatment of trading losses, non-trading loan relationship deficits, and other deductible amounts carried forward from one period to another. Not only can losses from a trade now be carried forward and used against any profits of the company in future (not just profits from the same trade, as used to be the case) but losses brought forward from an earlier period can now be ‘group relieved’; that is, transferred over from the company which incurred the loss to another company in the same group, to offset against that other company’s income. Prior to the 2017 change, it was only current losses that could be ‘surrendered’.
This is perhaps easiest to illustrate by way of an example.
Example 2: Group loss relief
Holding Limited has two subsidiaries, Profit Limited and Generosity Limited. In the year ended 31 March 2018, Generosity Limited incurred a bad debt on a loan it had made to another (non-connected) company, equal to £100,000. In the same period, Profit Limited, which had only just commenced trade, realised a profit of £10,000. A claim for group relief is duly submitted and Generosity Limited carries forward the balance of £90,000 as a non-trading loan relationship deficit (NTLRD).
In the following period ended 31 March 2019, Profit Limited realised a profit of £120,000 and Generosity Limited was able to carry across the rest of its £90,000 NTLRD, reducing the taxable amount of profits to £30,000. Before the changes in 2017, this second group relief claim would not have been permissible.
Practical point
As a result of these recent tax changes, you should consider whether forming a group is now your better option, given the advantages of separability and ringfencing of liabilities. It is likely that these will not be counteracted by any tax considerations pointing the other way.
