|
|
Thursday, 25th April 2024 |
| The cap on retirement relief was increased by 50% in Finance Act 2000. This focuses attention on a valuable but much misunderstood relief. |
Retirement irrelevant
Retirement relief is a relief from capital gains tax. It has nothing much to do with retirement per se. It is not necessary that the person claiming the relief should have retired from a business, nor does the mere fact that you have retired from a business entitle you to the relief. In fact retirement per se has nothing much to do with it.
What is critical is that the person claiming the relief should
• be aged at least 55 years
• be disposing of some or all of the assets of his trade or profession. Theoretically this extends to assets of an employment also but that is very unusual in practice
• meet minimum periods of ownership of the assets and other requirements.
The most valuable aspect of retirement relief is that on a transfer of a business to a child by the transferor, no capital gains tax will arise provided the conditions for the relief are met.
There is no limit on the value of the business which can be transferred in this way. If however the transfer is not to a child, but to a third party, there is a cumulative limit to the value of the transfer. That limit is currently ?375,000, and prior to 1 December 1999, was ?250,000.
Two functions
As can be seen retirement relief performs two quite different functions:
• It enables the business to be passed down through the generations of a family without CGT arising and
• it enables a small business person to put aside a very modest nest egg as a help to funding his retirement, where he is disposing of the business outside of the family.
The transfer of a business from one generation to another within a family attracts taxes other than CGT. It may attract capital acquisitions tax, and stamp duty also. Both of these taxes also contain elements of relief - business property relief (a 90 per cent reduction in value) for CAT purposes, and an exemption in relation to farmland on transfers to certain young trained farmers together with a halving of the stamp duty rate on other transfers between parents and children.
All of these reliefs are aimed at the same objectives, ie encouraging or facilitating the passing on of a business within a family at an early stage. The conditions for the reliefs are quite different. Each relief was built up without regard to the other reliefs and no overall review of these related reliefs has been carried out. This is an area offering opportunities to the Minister.
Where a disposal is to a third party, there is a cap on the relief of ?375,000. That cap operates by reference to the sales proceeds and not by reference to the amount of the gain.
The limit applies not only on the occasion when the business is being sold, but applies where capital assets used in the business are sold even though the business is continuing in the same ownership thereafter. For this reason all disposals of the business assets by the taxpayer from the date of his 55th birthday are aggregated to determine whether his total disposals (other than to his children) exceed ?375,000.
The businessman may find that he is entitled to relief on early disposals of assets on a piecemeal basis after his 55th birthday, but once the total of disposals exceeds ?375,000, that past relief is clawed back from him!
This highlights the fact that the cap operates not by providing exemption on the first ?375,000 of disposals, but rather by reference to a taxpayer whose total disposals do not exceed ?375,000 after he has reached his 55th birthday. Theoretically a taxpayer can have disposals in excess of ?375,000 in that there is a so called “marginal relief” to take care of a small excess. However this marginal relief is virtually irrelevant. It operates by charging the excess to CGT at a 50 per cent rate. Since the standard rate is only 20 per cent, it is unlikely to ever offer much relief!
Traps of course!
The relief contains a number of potential traps.
• If the business person allows his percentage of shares in the family holding company to fall below 10 per cent, he will find the relief denied on a transfer of that remaining percentage, whether to his children or to a third party.
• In the case of an unincorporated business, the relief extends only to assets held for not less than 10 years prior to the disposal. Where the assets replaced other assets, there is extension of the relief to them. This can be a trap in the case of an expanding business which is adding new assets in the ten year period prior to disposal, whether to a third party or to a child.
• Where the transfer is to a child, the relief is withdrawn, (and the tax charged on the child!) if the child disposes of the assets within six years.
• Where the business is carried on in a company, relief will only be available if the person making the disposal of the shares in the company was (inter alia) a full time working director for a period of at least five years, as well as a director for a period of at least ten years. The more successful entrepreneur who spreads his talents over a multiplicity of businesses, and does not do so through a group holding company, may find himself deprived of retirement relief in relation to any of the businesses by reason of this rule.
Pensions aspect
The Minister’s increase in the limit at which the relief ceases to apply on transfers to third parties, from ?250,000 to ?375,000, was generous. Nonetheless, the limit remains out of touch with business realities. How many businesses are worth only ?375.000 at the end of a taxpayer’s working life?
One idea the Minister might like to consider is that gains arising on the disposal of a business, where relief is not available because the proceeds exceed ?375,000 should be exempt, where the proceeds are transferred to an alternative retirement fund by the taxpayer. The objective in providing relief for disposals to third parties is obviously to provide a pension fund for the small business person. It would make sense to recognise this by providing a higher level of relief where the proceeds are in fact invested in a pension fund.
This would not necessarily suit every taxpayer since everything drawn from an alternative retirement fund is charged to tax at the marginal rate of income tax. Some taxpayers might prefer to face an immediate 20 per cent CGT charge rather than a marginal income tax charge much later. But it would be useful to have that choice in the context of a relief that is essentially a quasi pension. |
John Bradley is a Director of Personal Financial Services in KPMG.
|
| Article appeared in the June 2000 issue.
|
|
|
