HMRC has published ‘Allowing Entrepreneurs’ Relief on gains before dilution: consultation response’ alongside draft legislation which will ensure shareholders retain ER when a company ceases to be a personal company due to a fundraise.
The publication of the response follows the consultation, ‘Financing growth in innovative firms: along Entrepreneurs’ Relief on gains made before dilution’.
The consultation aimed to protect shareholders from a loss of Entrepreneurs' Relief (ER) due to a fundraising activity which resulted in their holding dropping below 5%. The government were concerned that this loss of ER was acting as a barrier to growth.
As a solution, they suggested a taxpayer could elect to treat themselves as making a deemed disposal and reacquisition immediately before the finance raise and claim ER. They would also be able to defer the gain.
- Many respondents believed it was not a barrier to growth. Whilst shareholders may be concerned about the loss of ER, the company would not be and it would not normally impact financing decisions.
- There were a number of respondents who felt that the cost of a valuation required so that the shareholder can calculate the deemed disposal might outweigh the benefit.
- Others pointed out that the valuation would require a significant discounting factor due to the minority holding, which would mean the benefit is greatly reduced when there is a final sale of the whole company in the future.
HMRC will introduce the changes to take effect for dilutions occurring on or after 6 April 2019. Draft legislation has been included in the draft Finance Bill 2018-19:
- It will apply when the company ceases to be a personal company for the individual due to a relevant share issue. This will apply where the share issue results in the shareholder's percentage holding dropping to below 5% (or less than 5% of votes).
- The individual must have been eligible for ER if he had disposed of the shares immediately before the finance raise.
- Where the conditions are met he can elect to be treated as if making a sale and reacquisition immediately before the finance raise at relevant value.
- In light of the responses, relevant value will be the appropriate percentage of the market value of the entire company shareholding and there will be no requirement to include minority discounts.
- The shareholder can also elect for the gain to be deferred until some future disposal.
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