As it stands, Entrepreneurs’ Relief (ER) means that the business owners qualify for a ten per cent tax rate on the sale of their business. It applies to the first £1m of any lifetime gains. Gains in excess of £1m are taxed at 18 per cent CGT (taper relief now long gone).
So what about the effect of ER when set against the income tax changes?
If we compare different levels of income under the increased tax rates, using a model of an individual with £1m of gains (qualifying for ER), while factoring in the abolition of personal allowance, it’s surprising how soon the effects bite.
The tax payable on £1m gains with ER is £100,000. Tax payable without this would be an 18 per cent hit of CGT (£180,000) meaning a saving of £80,000. So let’s look at how long it would take the income tax changes to have the same effect.
With an income level of £150,000 there is no additional income tax payable. However, with the abolition of personal allowances, the tax on £6,475 of additional income (which would previously have been tax-free) at the 45 per cent rate means an extra £2,913.75. Over a 27 year period means £78,671.25 in total additional tax.
A £200,000-income earner will pay the higher rate of tax on the extra £50,000 meaning an increase of £2,500. The extra personal allowance increase of £2,913.75 results in a total increase of £5,413.75 per year. Over 15 years this hits £81,206.25.
The poor (excuse the irony) £300,000-income earner pays an extra £10,413.75 per year, reaching £83,310 in just eight years.
These figures do not take into account any potential increases to personal allowances or the 45 per cent band rate at which it bites, but any changes to these are likely to reduce the time taken to balance out the tax position.
For higher earners who are anticipating this earning potential for the medium to long-term, an option to forego ER in favour of opting out of the forthcoming income tax changes will make sense.
And what would happen if ER was abolished and income tax changes remain in place? Typically an entrepreneur receiving income of £300k per annum over the next eight years, who sells their business or shares for a value in excess of £1m, would be £163,310 worse off.Paul Webb is tax partner at small business specialists Robert James. Related articles Darling bows to pressure over business rates "Should I incorporate my business?" Top ten tax year-end tips for owner-managers
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