This Week’s Challenges
Hello again, dear reader. Here’s a taster of the challenges that faced me upon my return from a restful time in sunny Provence:-
A client wants to implement a tax-efficient share option arrangement for a key employee.
The employee already has a small shareholding but, to bind him in further, the client is willing to give him an option so that, in due course, his shareholding will rise to 10%. Very generous!
The client conducts an “approved” (i.e. ordinary) trading activity and is just small enough (less than 250 employees and gross assets less than £30m) to qualify for the Enterprise Management Incentive (“EMI”) share option scheme, so that’s the way to go.
There should be no income tax or NIC charges on exercising the options and only CGT liabilities when the actual shares are sold. We suggest that the employee is allowed, more or less immediately to exercise enough options to take his shareholding to 5%, so that, on a sale of shares, he will qualify for Entrepreneur Relief (i.e. 10% tax) in a year’s time.
Both client and employee think this to be a good idea.
The final issue (other than drafting a mountain of documents) is to sort-out the value of the shares because the numbers imply that the overriding limit for EMI options of £120,000 might be breached. However, the credit crunch and the new Government’s policies on the spending of public money mean that business is not quite so buoyant as was the case previously, so a pessimistic valuation may be acceptable to HMRC. A valuation report and supporting documentation is drafted and negotiations with HMRC commence.
A similar issue to Case 1, but this time the client is a subsidiary of a foreign parent and so EMI options (or, indeed, any other form of HMRC approved option arrangements) will not be possible as such options cannot be granted over shares in subsidiary companies.
The client is considering simply granting an unapproved option, but that would be a tax and NIC disaster as full income tax (and NICs) would be chargeable when the option was exercised based on the (almost certainly higher) value at the time of exercise. An alternative approach is needed – urgently, as the UK company has only recently commenced trading, but is showing impressive growth already.
We suggest an issue of restricted shares which are subject to forfeiture. These behave economically like an option, but are not an option for tax purposes.
If performance targets are hit, then the restrictions will be lifted, but if performance is poor, the restrictions will remain and the forfeiture clause might be invoked.
For tax purposes, an election will be needed to disapply the restrictions, so the shares will be subject to income tax now based on their unrestricted value.
But that value will not be great as the company is new and hasn’t traded for very long. Crucially, the anticipated growth in the value of the company’s shares will be outside the income tax net, and the only tax charge will be to CGT (at 10% because of Entrepreneur Relief) as and when the shares are sold.
It needs to be got on with quickly and the corporate lawyers are told to proceed with all haste.
A client which has previously established a Remuneration Trust continues to make decent profits and wants to make further contributions to the trust for the benefit of certain employees and directors.
The cash-flow has been agreed with the bank and as all underlying structures are all in place, it is simply a question of explaining (again) the principles, making sure all relevant meetings take place and decisions are made (and minuted) and ensuring that tax returns and accounts reflect the transactions that will take place.
Draft documentation is produced and meetings are arranged with the directors to hold their hands through this process.
I learn of the sad and premature death of a client, who owns a substantial and valuable shareholding in a company that is the holding company of some trading subsidiaries.
His son telephones to ask about the inheritance Tax (“IHT”) position.
The group owns some investment properties and he is concerned that these might be chargeable to IHT as he is aware that there are draconian rules concerning “excepted assets” within the legislation governing Business Property Relief (“BPR”).
Happily his fear is misplaced; the ownership of investment properties is a “business” for IHT purposes, so the excepted asset rules simply do not apply.
Following a rather dubiously decided case, HMRC are keen to attack surplus cash as being an excepted asset for IHT purposes, but investment properties cannot be so attacked.
The issue is whether, looked at in the round, the business of any company in the group is wholly or mainly holding or making investments. That is not the case.
The trading subsidiaries all conduct significant trading activities, which dominate the group’s activities. The IHT analysis is a good one; the investment properties, if owned on their own, would not qualify for BPR, but if such assets are held within companies which do qualify for BPR on a wholly or mainly basis, the shares in those companies do qualify for BPR, even to the extent that the value is attributable to the value of the investments.
A good lesson for IHT planners!
A long running HMRC investigation takes an unexpected twist and a meeting with lawyers is considered sensible.
There are clearly complex issues that need to be addressed and quantified and the timing now seems to be right to meet informally with HMRC to map out a way forward with a view to negotiating a settlement of all matters.
It is agreed that a “partnership” approach to HMRC will be the best way forward, with the lawyers providing valuable input on matters legal and with us providing accounting and technical tax back-up.
The client would like matters to be wrapped-up in the next three months, but that looks very optimistic. We’ll see…
The weekend arrives and the hills of Provence seem like a distant memory. Time for some heavy-duty taming of the overgrown vegetable garden and greenhouse (oh, and some barbequing on the terrace).
And so to bed…Talk to Barnes Roffe today