Readers (or watchers) of Roald Dahl's Charlie and the Chocolate Factory will know that often when something is particularly novel and exciting there can be unexpected downsides (who can forget the giant blueberry-coloured Violet Beuregarde after her unsanctioned trial of a "three course dinner gum"). In his Budget speech, the Chancellor (Willy Wonka in this example, if you can stretch your imagination that far) confirmed that entrepreneurs' relief (the enticing confectionary) is sticking around - indeed, Hammond stated that encouraging UK entrepreneurs is "at the heart" of the Government's strategy. However, that reassurance comes with not one, but two downsides, one of which was unexpected and hidden deep in the "Red Book", which contains all of the budget detail.
The announced downside
First, as mentioned in the Chancellor's speech, taxpayers will need to meet the conditions for entrepreneurs' relief in respect of their shares for a minimum of two years before they are eligible to benefit, doubling the current 12 month period. While this change does not come into force until 6 April 2019, it is important to note that it applies to all disposals made on or after that date.
The surprising effect of this is a potential lacuna for taxpayers who acquired potentially eligible shares between April2017 and April 2018 - even if those shares would qualify for entrepreneurs' relief if sold on 5 April 2019, they will cease to do so for disposals from 6 April 2019 until the longer minimum period has been reached.
The surprise announcement
The second caveat went unmentioned in the Chancellor's speech, but potentially has far more significant implications for the availability of entrepreneurs' relief.
Until now, one of the key conditions for entrepreneurs' relief on the disposal of shares in a company has been that, for the minimum qualifying period, the taxpayer must have held at least 5 per cent of the nominal share capital and have been entitled to at least 5 per cent of the voting rights in the company. However, effective immediately, taxpayers must also be beneficially entitled to at least 5 per cent of the assets and distributable profits of the company.
This change imposes a broad restriction on the type of investors who might be able to benefit from entrepreneurs' relief and, just as importantly, unwinds existing entrepreneurs' relief planning already put in place for existing structures (for example, those typically implemented in private equity buyout transactions).
The Chancellor explained that these new measures are to ensure that entrepreneurs' relief is reserved for "genuine entrepreneurs", anticipating that the additional conditions will impact fewer than 1,000 individuals. However, we expect that the impact will be far broader, likely catching a significant number of historic private equity transactions and impacting the structure of future transactions. The Government has taken a far narrower view of "genuine" entrepreneurial investment than has become accepted in the market.
The practical implications of these changes will need to be considered further. Our initial concerns are:
- how the new conditions are to be applied where the economic rights attaching to shares in a company vary depending on the amount to be distributed (for example, where a taxpayer holds "promote" shares that participate in the economics only once a distribution is sufficiently large that the shareholders in another class will meet an agreed "hurdle"); and
- the extent to which other types of equity holders (such as preference shareholders and creditors) must be taken into account when testing the new conditions.
We are working through the draft legislation with a view to producing a more detailed analysis.
In the meantime, it's fair to conclude that the "golden ticket" that is entrepreneurs' relief has become very much a limited edition.
This measure ensures that the claimant has a true material stake in business in order to claim entrepreneurs’ relief