entrepreneurs relief

What will the 7 May election mean for UK tech companies?

Posted on May 5, 2015 by Tax N2K 0

As we run up to the 7 May 2015 election, thoughts turn to what the result might mean for UK startup and fast growth companies?

Techcrunch has noted the partisan approach that UK tech companies seem to be taking in writing a letter in support of the Conservative Party and points out that this stance should be taken with a pinch of salt (although I understand the article was penned by a declared Labour supporter ;) ).

I don’t want this to fall into a political rant but I sense there is a lack of transparency in the Labour party’s stance on how it might build on the successes that we have already seen in terms of tax policy for UK tech and fast growth companies.

For example, the Conservatives have made great strides in the following areas:

  • The introduction of Seed Enterprise Investment Scheme (SEIS) and its generous tax incentives to support investment into early stage companies to supplement the Enterprise Investment Scheme (EIS) aimed at more established companies
  • The improvements made to the Enterprise Management Incentive (EMI) share option scheme to allow participants to benefit from Entrepreneur’s Relief despite potentially not holding the shares for 12 months nor even holding more than 5% of the share capital
  • Improvements to the R&D tax credit incentive scheme that now boasts a 33.3% return for claimant SME companies
  • Introduction of the Patent Box at its beneficial 10% corporation tax rate – despite challenges from across the EU
  • Enhancements to Entrepreneur’s Relief that now allows entrepreneurs to benefit from a 10% CGT rate on the first £10m of lifetime gains
  • Reduction in the main corporation tax rate down to 20%
  • Plus video games tax relief and other reliefs for creative and digital companies

Taken together these measures keep the UK on track to meet George Osborne’s pledge to make it the most attractive place to do business in the G20.

It is worth noting that many of the above tax incentives were first introduced during Labour’s last bout in office; albeit in a more watered down form in most cases – although who’s to say that Labour might not have followed a similar path had they stayed in the office…? Truth is, we don’t know.

And herein lies the problem…

Labour do not appear to have shared much detail on their thinking and policies around these areas and, in particular, these specific tax incentives. The danger is that an incoming party wants to “shake things up” and “make their mark” which may threaten the stability and progress made around these important areas for UK entrepreneurs.

We may just be about to find out more…

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Has your company missed out on EMI too?

Posted on July 1, 2013 by Incentivising your team Tax N2K 0

Screen Shot 2013-07-01 at 20.00.45Enterprise Management Incentive share option schemes (or ‘EMI’ for short) have long been a useful tool for entrepreneurial fast growing companies that wish to both tie-in key employees and incentivise them tax efficiently with the promise of jam tomorrow in the form of a slice of the share equity.

The peculiar thing as evidenced from the chart above is the apparent lack of take-up by start-ups and SMEs – even ignoring the flat-lining in recent years which could be attributed to the general market malay – in that only approx 7,500 companies have an EMI scheme across the entire UK…! Which begs the question:

Is your company missing out on an EMI share option scheme?

Before going any further, its worth having a brief recap on the key tax benefits of an EMI share option scheme for qualifying companies:

  • No income tax or NIC cost on grant or exercise of the EMI options
  • Growth in shares under EMI option subject to capital gains tax (CGT) rather than dreaded income tax (45% anyone?!)
  • Potential for Entrepreneur’s Relief for EMI option holders even though they may ultimately hold less than the normal required 5% shareholding plus the 12 months accruing from grant of the share option (a MASSIVE recent change)
  •  Corporation tax deduction for the company on exit in most cases.

Admittedly the entrepreneur’s relief relaxations (which I have long banged on about!) are fairly recent changes; but still, the benefits are plain to see, compared to say unapproved share options which normally have income tax and NIC written all over them…!!!

Let’s not forget that for cash-strapped start-ups and early stage companies, the ability to give highly valued employees a stake in the company with no cost outlay is a huge deal especially in the current economic climate – also, note how the company can get a tax deduction (on the increase in value between the exercise price and market value) even though the company has not incurred an expense as such!

There is also flexibility as to how and when employees can exercise the EMI share options  e.g. with some being structured as ‘exit only’ options (ie the EMI options vest only minutes before a sale of the company) and /or performance criteria can be included to keep the relevant employees on their toes!

So why poor take up for EMI share schemes in the UK?

Here’s my take from experience of talking to entrepreneurs about structuring tax efficient employee remuneration planning and EMI’s in particular:

  1. Unawareness of the scheme – sad but true, many accountants have not advised their clients that such a mechanism exists to incentivise their employees tax efficiently for both themselves and the employing company. 
  2. Too complex & costly – this is normally a misconception. Okay, the rules can be cumbersome in parts and there are some strict eligibility requirements but if you work with advisers who have implemented EMI option schemes before, this should be a problem. The costs should be far outweighed by the savings – oh, and  our professional costs for setting up EMIs are tax deductible!
  3. Bad experience in a ‘previous life’ – this can be an issue where unrealistic expectations are set when the option scheme is set-up and things don’t materialise as expected e.g. no exit occurs within the expected time-frame or if it does, the gains for the EMI optionholders turn out to be fairly paltry compared to the vision painted at the outset. Sometimes the very employees who suffered at the hands of a badly communicated EMI scheme set-up are now at the helm of their own company and are understandably fearful of inflicting the same disappointment on their own team. Managed well, this should not be an issue but it does come up…
  4. No clear exit plan – EMI’s are designed for entrepreneurial fast growing companies and, although a company can’t have an immediate sale on the cards when it sets up the scheme, it needs to have a time-frame and clear action plan for how it will allow its employees to realise the value they hold in the paper that will turn into shares. Like point 3, we’re down to managing expectations…

What’s your experience of EMI option schemes (good and bad)?

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Reform needed for 5% shareholding req for Entrepreneur’s Relief

Posted on July 21, 2011 by Tax N2K 1

Current tax rules require shareholders to be officers or employees of a company and hold 5% of the ordinary shares (and voting rights) for a 12 month period prior to sale to qualify for the holy grail of entrepreneur’s relief (ER) – ER results in a 10% personal capital gains tax rate (CGT) as opposed to a top rate of 28% CGT which is worth a potential £1.8m in tax savings.

I am currently encountering 3 common problems related to this condition in advising fast growth tech companies:

  1. Founders are seeing their equity being diluted as they approach much needed successive investment rounds and may therefore find themselves sinking below the 5% threshold – what adverse impact might this have on the funding decisions of business founders?
  2. You need to hold the 5% minimum requirement for 12 months prior to sale – what about employee shareholders who exercise share options just prior to sale (because that’s all the share option scheme permits)?
  3. What if a Founder is willing to share equity with a number of key employees (and reach the 5% threshold in each case) but is unwilling to relinquish voting rights? Especially if say 5 or more shareholders are given 5% each thereby breaching the 75% ownership limit necessary for passing special resolutions? Although this can often be managed via a shareholder agreement, some founders may be unwilling to enforce their (perceived) rights by suing for breach of contract.

Clearly, any tax incentive worth a potential £1.8m requires conditions and safeguards but it is disappointing when these conditions lead to skewed and sometimes uncommercial decisionmaking.

What changes or improvements would you like to see made to entrepreneurs relief?

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What does Entrepreneur’s Relief mean for you as a business shareholder?

Posted on August 10, 2010 by Selling your Business 0

It was nice to be quoted in today’s North West BusinessDesk.com (registration required) on why now might be a good time for entrepreneurial business owners to consider selling or exiting their business. I thought it might be useful to expand on this short published article.

You may have heard in the fairly recent Emergency Budget that the 18% flat tax rate on capital gains was increased to 28% for higher rate tax payers with effect from 23 June 2010 – the higher rate tax kicks in where total income, including capital gains, exceeds approx £43,000.

So does this mean that you might suffer tax at 28% on the gain if and when you come to sell your business?

For most hands-on digital entrepreneurs the answer should be “No”. On the sale of your business, you should (subject to the qualifying conditions below) qualify for Entrepreneurs Relief which provides a preferential tax rate of just 10% on capital gains crystallised on lifetime gains up to £5m [Note that this increased to £10m].

Compare this with the current super tax rate of 50% for earned income in excess of £150,000 [45% from 6 April 2013]. The difference between capital gains (as suffered on the sale of a business or shares in a company) as opposed to earned income is absolutely critical!

Further, the June 2010 Emergency Budget made Entrepreneurs’ Relief even better by increasing the lifetime allowance from £2m to £5m (saving a potential additional £540,000 of tax) so it is vitally important that you structure your business to take maximum advantage of this valuable tax break [Note that increased to £10m – even more important….!].

Key qualifying conditions for entrepreneur’s relief to apply to the sale of shares in your company:

  • You must hold at least 5% of the ordinary shares and voting power
  • It must be a trading company (most digital, tech and creative businesses would satisfy this condition)
  • You must be an officer or employee of the company
  • You must hold the shares for a minimum of 12 months prior to sale.

So based on these conditions, 20 employee shareholders could theoretically shelter a gain of £100m taxed at just 10%!

It is vitally important therefore that you consider the following potential opportunities and pitfalls in structuring your company shareholdings and arrangements to secure entrepreneur’s relief:

  • % of shares awarded – you would be seriously peeved off if you were awarded 4% of the shares and voting power if, with a little advance planning, an additional 1% could have saved you approx £800,000 in tax if the business ultimately sold out for c£100m – this is a key issue for founders to consider plus for incentivising key management
  • rights attached to the shares – what if you were awarded 10% of the shares of a class that held no voting rights and then found out years later on exit that you were subject to tax at 28% when your colleagues paid tax at just 10% because they all had voting rights (you didn’t think this minor omission was all that important at the start…)?
  • duration of the shareholding – many tax advantaged share schemes such as HMRC approved Enterprise Management Incentive schemes (EMI) used to be more valuable as, not only do they allow you to pick and choose who will be awarded share options, they also allowed for the lowest capital gains rates of 10% under the old CGT regime in pretty much all cases. Not necessarily now… Most EMI schemes are structured such that the options are exercised at the point of a sale of the company or exit, however, if this pattern of facts unfolds you would not have held the shares for the necessary 12 months. You would fail the test. You would have had to have exercised the share options and acquired the shares 12 months before the deal to qualify for entrepreneur’s relief (this assumes that you had the cash to fund the share acquisition which is often a practical difficulty in itself)
  • role of shareholders – there is no requirement to work a specific minimum number of hours or hold a particular post but to qualify you must formally hold a post within the company, either as an officer or employee. Non-executive directors should qualify so long as they are formally engaged – but what does this mean for many angel investors? Also, consider advance planning if you are a husband and wife company – shares can be transferred between a husband and wife (or civil partnerships) without triggering a taxable capital gain so it is sensible tax planning to consider transferring a minimum of 5% of the shares as soon as possible and ensuring that the recipient spouse carries out some role (with a title) in the business.

The key tipping point for shareholders is on gains exceeding £7.5m as this is the point at which the hike in tax rates from 10% to 28% (as opposed to 18%) but compensated for the increase in lifetime allowance to [£5m] (from £2m) really bites.

Although this is splitting hairs for most entrepreneurs as getting the most out of your business at the end given all the blood, sweat and tears suffered in building it is absolutely paramount. So don’t risk leaving it until you (and your team) are sitting on a capital gain of £8m+ before you start thinking about this stuff. Fancy a coffee?

The above information is for educational and entertainment purposes only and does not constitute professional advice. Please contact me if you would like to discuss factors specific to your circumstances or discuss with your professional adviser.

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7 tax incentives for UK digital & technology startups

Posted on July 19, 2010 by Startups Tax Tips 1

HOT OFF THE PRESS: We’ve just launched a brand new online course that shows you exactly how to complete and file your SEIS / EIS advance assurance application with HMRC. We walk you through every stage of filling out the form plus share some additional resources to help ensure a smoother passage through HMRC. Access it by clicking here. [Use the code: SEISAA2017 to get 50% off in January]

Having taken the risk and side-stepped the typical job route to become a tech entrepreneur and wealth-creator, its a good job that there are still some tempting UK tax incentives out there to support you.

Here are just 7 tax ideas or tips that you should be thinking about for your digital technology start-up:

  1. Entrepreneur’s Relief – if you hold 5% or more of the shares in your startup for 12 months and work as an officer /  director or employee, then when you come to sell the shares your effective tax rate will be just 10% on the gain. This is limited to the first £10m of gain over your lifetime . Sure beats an income tax top rate of 45%! Make sure you take this into account when setting up your company to ensure founders (and key employees) maximise this essential tax relief. You’d be gutted if you unwittingly held just 4% of the shares!
  2. R&D tax credits – get rewarded by the tax man for innovating in your sector by claiming this lucrative tax relief. Many entrepreneurs mistakenly believe that this tax incentive relates solely to industries with scientists wearing white lab coats but this couldn’t be further from the truth. This relief applies across industries – I have enjoyed particular success in the tech sector, for example, I have secured a £250k tax refund for a tech startup that had been (wrongly) advised by its accountants that it wouldn’t qualify for this relief! Most repayments are processed by HMRC within 30 days of a claim and you only have 2 years to make a claim before you’re time-barred. Don’t leave this cash on the table.
  3. Enterprise Investment Scheme – angel investors and private individuals are incentivised to invest in (perceived) higher risk investments like early stage start-up companies with tax breaks like the Enterprise Investment Scheme (or EIS as its more commonly called). Now is not the time for the exact detail suffice to say that many tech or digital startups would fall within the qualifying criteria thereby allowing smart investors to reclaim 30% income tax relief subject to certain limits. Just be aware for now that this is out there to tempt investors. [Update: Seed Enterprise Investment Scheme (SEIS) introduced since this post]
  4. Temporary National Insurance Holiday – for new businesses there is a recently announced temporary NI holiday for the first 10 employees limited to £5,000 per employee or £50,000 overall. The scheme officially kicks off in September 2010 however there should be relief for businesses started post 22 June 2010. This relief is location specific with most of the South East barred so you need to check qualifying locations. Startups across the North will qualify so now is a good time to start building your team.[Update: Now gone – there is an Employer’s NIC £3,000 annual allowance at the time of writing Jan 2017]
  5. Get paid at mouthwatering tax rates compared to most employees – once you get past the pre-revenue stage and start making profits, shareholders of small companies have the flexibility to structure their remuneration package to optimise take-home pay. Why pay up over 20%, 40% or even 45% income tax and incur huge National Insurance costs on employee salaries when you can pay yourself a combination of a small salary, dividends (and pension contributions) which, if carefully managed, can result in £nil income tax or NI for c£40k of remuneration. [Update: Dividend tax rule changes since 6 April 2016 reduce benefits]
  6. Get 100% tax relief on your new equipment – so you need to invest in new Macbooks, laptops, servers and other gadgets for your business. You can claim 100% tax writing down allowances (‘Annual Investment Allowance‘) against profits on your ‘first’ £200,000 (!) of capital expenditure each year [note: this relief has bounced around in recent years since; be wary of timing – it is £200,000 at the time of this update (Jan 2017)]
  7. Patent innovation box – coming soon (allegedly) will be a ‘patent box’ which will allow income or profits on registered patents to attract lower company tax rates of c10% (as opposed to a current lowest corporation tax rate of 20%.

If you’d like to discuss how any of these tax incentives could be applied in your business, please drop me a line via the contact page or you can find professional specialist advice and help at ip tax solutions. Happy to discuss.

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