Chancellor Alistair Darling’s announcement to scrap the current Capital Gains Tax (CGT) taper relief band of 10 per cent and replace it with an across-the-board rate of 18 per cent in April 2008 is a major blow to small business owners.
After April, those selling their businesses could see their CGT liabilities jump by 80 per cent.
The changes mean entrepreneurs who have spent years building up small businesses will be treated in the same way as hedge fund managers and property speculators.
“This is a prime example of the theory of unintended consequences,” says Henry Edjelbaum, managing director of London-based ASC Finance. He warns that the CGT hikes may not amount to very much for the hedge fund boys but for a small business, the extra 8 per cent is a massive increase.
In an open letter to the chancellor, the Federation of Small Businesses, the Institute of Directors, the Confederation of British Industry and the British Chambers of Commerce said that the owners of small enterprises must sell up before April or face a substantial dent to their investment.
Flurry of sales activity
Widespread reports that the chancellor is considering the reintroduction of a CGT exemption of £100,000 for owners who sell their businesses and then retire have not quenched the protests.
Michael Ridsdale, tax partner at London law firm Wedlake Bell, observes that it is difficult to know if the Government will back down from its CGT proposals in the case of small businesses.
“I expect to see a flurry of sales activity before the next tax year,” he says.
However, four months is an insufficient period for the optimal sale of a business.
“There is no quick fix. The chancellor has announced this so close to the deadline that there is no way around it,” says Neil Ackroyd, managing director of Precision Corporate Finance.
There are only a few honest, realistic options for a quick sale. Outside of those listed, bankruptcy has been a traditional exit strategy.
Less drastic could be the creation of a trust or special purpose vehicle into which the business could be sold at its present value, with only 10 per cent CGT payable. It could be repurchased next year at the higher tax rate but as a smaller capital gain.
The combination of the construction sector’s seasonal slow period and the credit crunch could see more smaller companies seeking to sell.
Hari Lotay, co-owner of Birmingham-based construction firm Twin Build, observes that some companies are feeling the pinch.
“We get inquiries from smaller companies who are asking to subcontract for us,” he says.
Twin Build has been trading for only five years so is small enough to adapt to new times while thoughts of selling are many years in the future.
Mr Lotay’s ethos is to keep all finances simple. Expensive lawyers and accountants to keep track of tax regulations may be more trouble than they are worth.
This is not the case, says Adrian Mole, corporate tax partner at London-based financial adviser Mazars.
Fees for lawyers and accountants may be expensive but they pay for themselves in the end. If things go wrong, an owner can end up with nothing.
Construction companies that often deal in property may find the line between trading and investment can be very blurred, and a company’s trading status could be jeopardised.
David Grove, former president of the Birmingham Chamber of Commerce, thinks that tax concerns should not drive commercial decisions.
His opinion is debateable but all the experts agree on one strategy: when selling - plan, think and take your time.
Long-term sales advice
For a successful and profitable sale, David Robertson, chief executive of Bibby Financial Services, suggests owners should keep a clear head and observe the following:
Get a game plan – think about the sale at least 18 months ahead.
Set goals – target price, date of sale, minimising tax, job security for employees.
Seek guidance – expert lawyers and financial advisers are worth their cost.
Prime for success – show the business and its assets in the best possible light.
Get your finances straight – coincide the sale with a completed set of audited accounts.
Craft the Sales Memorandum – the document sent to potential buyers should portray the business to its full potential.
Target prospective buyers – anonymously approach at least 30 buyers to gauge what their interest is.
Size up the offers – what will be your responsibilities and liabilities? How will the purchase be financed?
Source the best deal – carefully play off prospects against each other to promote higher bids.
Formalise the offer – agree Heads of Terms with the buyer. Usually this will be subject to further due diligence.
Be realistic, says Neil Ackroyd, managing director of Precision Corporate Finance. A sale before the April 2008 tax deadline should only be completed if:
You already have a purchaser for a good price.
You have identified a purchaser who has made a good offer.
A friendly family sale could be arranged, between spouses or parent to child,
and possibly using refinancing with a bank which knows the business.
A management buyout, in whole or in part, could be arranged.