When closing down a business, there is often cash that needs to be taken out.
There are various methods to extract money from a business before cessation and taking money out of your business in the most tax-efficient way would be best.
But what are your options if dividend payments have been made to the full extent from realised profits, and there is still more cash to distribute?
There are different tax implications depending on whether the company is being placed into liquidation or ‘struck off’.
What is ‘striking off’ a company?
A statutory (but non-formal) procedure to winding up a company is ‘striking off’. If your business has surplus assets that need to be distributed, these assets are classified as income distribution. This is similar to a dividend. This includes the repayment of your business’s share capital that is represented by its assets.
It may be more tax-efficient to treat these assets as capital and they will be subjected to Capital Gains Tax (CGT) in place of income tax if the following conditions are present:
- The amount withdrawn is less than £25,000 (whether as a single distribution or in separate amounts)
- Providing that at the time of distribution, the company has collected, or intends to collect, its debts and has paid off or intends to pay off its creditors
If your business has applied to be ‘struck off’ and within two years of making a distribution, has failed to collect all its debts or pay its creditors, then this distribution is treated as an income dividend, taxed at 7.5%, 32.5% or 38.1% depending on your other income.
In circumstances where distributions are over £25,000, they are taxed in full. This is similar to the dividend rate unless you decide to formally liquidate the company.
A Capital distribution could attract ‘Business Asset Disposal Relief’ and only be taxed at 10%. In addition, the first £12,300 is tax-free if you use your annual exemption.
Should I liquidate my business?
If your business has been placed into liquidation, it’s important to know that all distributions made during the wind-up process will be treated as capital.
There are additional costs for liquidating a business. Liquidation costs around £2,000-£3,000 in fees for small businesses. If your business needs to make a distribution of more than £25,000, you’ll be forced down the route of liquidation.
Similar to the ‘strike off’ process, ‘Business Asset Disposal Relief’ may be available. If this is timed correctly, two distributions could attract two amounts of CGT allowances.
Once funds are received, the liquidator would normally distribute 75% of the amount to the business. The remaining 25% would be used as a ‘buffer’ and will be paid out following HMRC clearance and the period of any creditor objections has passed.
For tax planning purposes, if possible, make payments on either side of the 5 April tax year-end. This would potentially allow for two years of the CGT allowance.
Why would I place my business into liquidation?
An alternative tax planning consideration may be available if it is expected that shareholder will be higher rate taxpayers on withdrawals as dividends under ‘strike off’.
In this case, shareholders who are withdrawing less than £25,000, could take advantage of placing the company into liquidation if the CGT tax due would be lower than the income tax rate due.
It’s important to keep in mind this route should only be considered if the tax savings exceed the costs of liquidation.
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