Lee Sharpe looks at the main tax implications when shareholders and directors want to extract company assets.
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There are several tax issues that may arise when transferring assets from an owner-managed business (OMB) or family company. This article sets out to give the reader a reasonable introduction to the things to look out for in ‘vanilla’ cases when considering discrete assets and assuming the parties are UK-resident.
The typical scenario here is where a director-shareholder wants to extract a favoured asset, currently being treated as a fixed asset that has been used in a trading company.
Benefit-in-kind (directors and other employees)
Perhaps the most obvious consequence is exposure to a charge to income tax through employment.
For example, suppose Siobhan, a shareholder-director of her family company, wants to take home some office equipment (desk, chair, television, laptop, etc.) for her son, who is leaving home to go to university.
While there is long-standing and reasonably generous provision for the employer to make its assets available so that the employee can work from home (see, for example, HMRC’s Employment Income manual at EIM21611 and note the examples at EIM21613), this cannot apply here because:
- Siobhan is not using the office assets for employment at all, as there is no employment purpose; and
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the company assets are being transferred to private ownership.
The assets originally cost £5,000 when bought in 2019 but are currently worth around £1,000. Siobhan could just pay full market value for them on an arm’s length basis, but prefers to take the assets now and bear the tax charge later.
The standard charge will be the second-hand or current value of the assets (less whatever Siobhan actually pays for them – if anything).
Traps in the earnings and benefits legislation
- The tax charge cannot be avoided simply by transferring the assets to a relative who is not an employee, instead of Siobhan, as it will typically encompass an employee’s family and household.
- If Siobhan’s company were to buy new office equipment and then promptly transfer it to Siobhan’s ownership without actually using it in the company’s business first, Siobhan cannot argue that the tax charge on her should be based only on the equipment’s lower, now second-hand value. The charge will rise to recognise the employer’s overall ‘cost of providing the asset’ – basically the employer’s acquisition cost (or production cost in some cases) plus any incidentals.
- Siobhan might instead get her company to buy some nice furniture that is intended for her or her family’s private use, with a rough plan to enjoy the furniture privately for a few years, and then transfer the furniture once its second-hand value has fallen significantly. But the rules state that Siobhan will:
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suffer annual income tax charges while the assets are made available for her private use; and
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the final charge when the furniture is transferred to her ownership is calculated, broadly speaking, by reference to the employer’s cost of providing the asset (as in 2 above), but this time with reductions for any benefits already assessed at (a), prior to the transfer.
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See, for example, HMRC’s Employment Income manual at EIM21645. Simply put, the legislation aims overall to ensure that the employee will ultimately be charged for the whole cost of an asset in aggregate, except while or to the extent that the asset is being used primarily in the business rather than as a private benefit.
What if Siobhan is a shareholder but not a director or employee?
The tax legislation (at CTA 2010, s 1064) will catch individuals who are only shareholders (and not related to any other employees or directors) by deeming a distribution (dividend) to have been paid, equivalent to the taxable benefit calculated under the standard regime applicable to employees, as outlined above.
Taking the above simple example, if those old office assets were transferred second-hand to Siobhan, who this time was a shareholder but not a director or employee, she would be taxed as if she had received a dividend of (say) £1,000 from the company. This trap applies only to participators in ‘close’ companies (i.e., broadly, OMB or family companies) and the situations where someone like Siobhan is a shareholder but not an employee (or related to a director or employee) tend to be quite rare.
Capital allowances
Where capital allowances have been claimed on the asset while used in the company’s business, a ‘disposal value’ will ordinarily need to be brought into account when the asset is disposed of.
In the absence of a sale or where the sale is at less than market value, the deemed proceeds will usually be pegged at market value. Given that the bulk of assets will have had 100% annual investment allowance claimed on acquisition, this could result in a positive capital allowances charge on the company in cases such as transferring office equipment to Siobhan’s personal ownership.
However, so long as the individual is chargeable on the receipt of the asset as a director or employee (see benefits in kind above), then the disposal value for capital allowances purposes is reduced to £nil – even if the employee ultimately pays no tax on receipt of the asset (see HMRC’s Capital Allowances manual at CA23250).
In principle, either the employee or the company will effectively be exposed to a tax charge on income or profits in relation to the value of the assets gifted.
Value added tax
Assuming the company is VAT-registered, VAT will also be in point. Where the asset is transferred as a sale, then VAT would ordinarily be charged and accounted for through the invoice. But where the asset is effectively a gift, VAT will usually still need to be accounted for, even if there is no sales invoice, etc.
VAT will be due on the notional cost to the company of supplying those items, based on their value at the time of the gift; see HMRC’s VAT Supply and Consideration manual at VATSC03330.
Capital gains tax
The asset may be chargeable for capital gains tax (CGT) purposes – the most obvious category of appreciating asset being property. A controlling shareholder is ‘connected’ with their company but market value should generally be used anyway for deemed CGT proceeds, wherever an element of gift is intended.
While it is rare for plant and machinery to appreciate in value, it is often overlooked that capital allowances do have CGT implications. ‘Wasting assets’ with an expected useful life of 50 years or less are usually exempt from CGT unless the business has (or could have) claimed capital allowances on them. This lessens the appeal of the wasting assets exemption in business and corporate scenarios, although the exemption for chattels (tangible movable assets) may yet be available, as may holdover reliefs (or no-gain, no-loss if the transfer is to another group member instead TCGA 1992, s 171).
Other CGT traps
Aside from broadly ensuring to use market value and the rules for assets subject to capital allowances already discussed:
- If a company makes a capital loss on a disposal to a connected party (such as a controlling shareholder), that loss will be a ‘clogged loss’ and can be set only against gains arising under the same connected party relationship (see HMRC’s Capital Gains manual at CG14561).
- If the company decides to transfer the asset by way of a distribution in specie (i.e., broadly, a dividend of an asset other than cash), it is deemed still to make a CGT disposal first.
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Particularly with property, it is quite common to find that gains have been postponed into the asset already, and its disposal by the company now may, therefore, trigger a larger gain than expected.
Devil in the detail
Hopefully, this article will have given the reader a reasonable introduction to the main issues to consider when trying to extract favoured assets from companies.
However, there is a lot of fine detail here, and careful analysis is essential. Other factors include specific asset types such as cars or living accommodation, certain arrangements such as the flat rate scheme or salary sacrifice (optional remuneration arrangements), or procedures that can trigger stamp duty land tax or equivalents when dealing with property. Next month, I shall look at the key tax implications of transferring assets into companies.
