Our Tax Partner reflects on the changes made to the Entrepreneurs’ Relief (ER) on interests in partnerships, a year after they were implemented.
As we approach the first birthday of changes to the Entrepreneurs’ Relief (ER) on interests in partnerships, it might be useful to reflect on what these restrictions mean in practice. Very broadly, the tweaks to the ER rules in 2016 brought in two 5% tests for interests in partnerships. It is then interesting to know how ER might apply to the shares in company that has an interest in a partnership (i.e. corporate partners). It is not so common to have partnerships with corporate members but it does happen and so the ER rules may be important (e.g. on retirement).
ER can be claimed on the disposal of shares in a trading company. For shares in a company, activities carried on by a company as a member of a partnership are treated as being trading activities unless the individual making the disposal fails either or both of the ‘profits & assets test’ and the ‘voting rights test’ in relation to the partnership. If the company is treated as having trading status then ER may be available. The tests are applied by looking at both direct and indirect holdings by the individual making the disposal in the partnership. So, it is necessary to consider holdings in a partnership owned by the person making the disposal.
The individual with shares in the company must satisfy the conditions for both tests throughout the ‘relevant period’. Where the disposal is of shares in a trading company or the holding company of a trading group, the relevant period is normally the period of one year ending with the date of disposal. Alternatively, where the disposal is of shares or securities of a company that has ceased to be either a trading company or holding company of a trading group it is the period of one year ending with that cessation. The two tests are as follows:
1. The profits & assets test
The individual making the disposal satisfies the profits and assets test if, during the relevant period, the sum of the direct percentage interest in the partnership’s assets and the aggregate direct and indirect percentage share is at least five per cent.
2. Voting rights test
The person making the disposal meets the voting rights test if, during the relevant period, the sum of his direct and indirect voting rights percentage is at least five per cent. References to a person holding voting rights include references to a person who has the ability to control the exercise of voting rights by another person.
There are other conditions for claiming ER and earlier changes to the ER rules prevented claims on sale of goodwill to a personally owned company. Furthermore, there are many other tax consequences for the inclusion of company members in partnerships such as non-availability of annual investment capital allowances. However, the conditions for ER on shares in corporate trading partners may be very valuable.
As with all such tax situations, advice should also be sought before proceeding. For further details, contact solutions@ellacotts.co.uk.
