The end of an ERa?

The Institute for Fiscal Studies (IFS) suggested that business owners respond more to changes in taxes by adjusting how and when they take money out of their companies rather than by changing their investment plans. It’s also claimed that many owner managers hold significant sums of cash in their companies in order to access lower CGT rates and to save tax – well of course they do! Although it’s probably driven as much by a combination of attitude to the high tax rates on dividends and an attitude to risk leading to a desire to remain cash rich.

The IFS’ issue with the system is that while higher income tax rates encouraged lower income take from companies, especially if it kept owner managers just below the next tax threshold, the cash retained wasn’t invested but squirrelled away.

An earlier HMRC research paper by IFF Research, found that in most cases ER was not the primary motivating factor for entrepreneurs when making decisions about investing in assets, or disposing of them. But it did find that those most likely to be influenced by ER at the point of making their initial investment were those most likely planning to set up a new company. Perhaps it’s motivating serial investors – and so perhaps this is a driver for enterprise and especially so in Cambridge and the Silicon Fen?

It’s difficult to predict anything in British politics nowadays, and that’s also true about the future of ER. Both main parties have had a hand in tinkering with this tax relief and advocating the virtues of it. So perhaps more tinkering is the likely in the upcoming Budget?

Whether or not a transaction will qualify for ER is always an agenda item in exit planning discussions. And it’s relevant in any M&A activity, whether you’re selling a business, doing a management buyout, or even if you’re buying a business (because it will influence the seller). We often find ourselves explaining this aspect of UK taxation to overseas buyers.

And we’re now finding, in discussions with entrepreneurs around Cambridge and East Anglia, that the availability of ER is becoming a factor for some in accelerating their exit plans before possible tax regime changes – indeed we have several transactions that we’re sprinting to close before the Budget just in case. Whatever the changes it’s certainly true to say that the tax rules are unlikely to get any more benign.

Ultimately exit decisions are driven by personal factors such as age, and a desire to do something else in life. Or by business factors such as the value of the company, and its strategic plans.  Thus, the tax tail doesn’t often ‘wag the dog’, but it would be helpful to have some certainty on how capital gains on the sale of businesses are going to be taxed.

In the short term, the best way for business owners to wrest back some control from the politicians is to have some exit planning discussions, work out a range of dates and values for their exit, and what needs to happen to deliver that. All done at a time of their choosing rather than having to jump in response to changes to the tax regime.