Get more money when you exit, part II
For many entrepreneurs an eventual sale is the single biggest reason
for creating the company in the first place. In part two of this series
Lesley Stalker looks at the selling process, the documentation you need
and tax implications for your business.
Getting the fundamentals right
Ensure that the business’ financial and legal information is up-to-date. Once you have found a suitable buyer, their solicitors and accountants will normally wish to carry out a financial review of the business known as a ‘due diligence’.
This audit will involve them gathering information about all aspects of the business so that the buyer can make an informed decision and modify the terms of sale if necessary. It is therefore important that you gather together the financial information required. This may include:
• A minimum of three years’ accounts and tax returns
• A full list of debtors and creditors, with balances and payment schedules
• Company Secretarial and other statutory documents
• All relevant legal and HR documents e.g. copy leases, employment contracts
• Ensure details, budgets and business plans are ready to be inspected by potential buyers.
Heads of terms
‘Heads of terms’ are agreed before the main contract is signed. The document highlights the principal issues of the agreement and the intentions of both parties. The ‘heads of terms’ may contain:
• What the purchaser is buying
• The price of the business
• How the purchaser intends to pay
• Any other terms and conditions of the sale
It is essential that professional advisers such as solicitors, accountants and specialist tax advisers are appointed early in the sales process and before these ‘heads of terms’ are agreed.
In a court of law this document may be considered legally binding. In our experience as tax advisors, many clients come to us already having signed this document, simply because they didn’t appreciate the future tax implications of the sale. And while it isn’t impossible to re-negotiate terms, you the vendor are in a far weaker position with the purchaser.
Tax implications
Before selling your company you may want to consider tax efficient strategies of withdrawing funds from the business. Ways in which to do this include paying dividends, bonuses and termination payments. However, if you do make these sorts of withdrawals it may affect the sale price of the company. Similarly, you need to strike a balance with the amount of cash you leave in the business, as HMRC can view excessive amounts as tax avoidance and penalise accordingly.
Capital gains tax and selling shares
Any profits you make from the sale of your assets will be liable to cpital gains tax (CGT). CGT is worked out for each tax year (which runs from 6 April one year to 5 April the following year). It is charged on the total of your taxable gains, after:
• deduction of the costs of acquisition and disposal of each asset
• taking into account any reliefs that affect the amount of a gain - some apply automatically whereas others have to be claimed
• deduction of allowable losses arising from the disposal of other shares or assets
• applying 'taper relief' - this may reduce the taxable gain on an asset depending on the nature of the asset and how long you've held it
• deducting from the total taxable gains left the 'annual exempt amount' (AEA), which for the tax year 2008-2009 is £9,600.
How much CGT you pay depends on your overall income. Your total taxable gains are added to your taxable income for the year and treated as the top part of that total. The gains are then charged to CGT.
Taper relief
Taper relief, introduced in April 1998 reduces the amount of the net chargeable gain the longer the asset is held. Taper relief is based on the size of the gain and the length of time an asset has been held.
Business assets are entitled to taper relief over the relevant period, with maximum relief accruing over 2 years. Only complete years qualify at the following rates (with no bonus rate):
Exemption Effective Tax Rate
Year 1 50% 20%
Year 2 75% 10%
How this can work in practice
Supposing you start up a business from scratch that is in a high growth area and is very attractive to speculative investors. If you sold the business for £10 million after one year from the date you started trading you would have to pay 20% CGT tax on the whole sale, unless you include an element of “deferred consideration” into the sales contract.
In this way you could pay 20% on a portion of the sale, and then, by waiting until another year to claim the rest of the purchase capital, could be eligible for the 10% rate on the remainder of the business. Accruing these benefits is something a tax advisor would structure into the sale terms on your behalf.
VAT
If your company is registered for VAT, you will need to contact HMRC and complete form VAT 7 to cancel your registration, or form 68 to transfer your registration to the new owner.
Exit planning can be confusing for business owners, especially if this is the first time they have sold a business. Before committing to any decisions it is essential that you seek advice from a suitably qualified expert early on in the process.
For many, being in the position of selling marks the culmination of many years’ hard work and personal sacrifice. A well-thought out exit strategy will enable you to maximise your end rewards in terms of the value you ultimately get from your business. An ill-thought strategy may leave you wishing you hadn’t sold up at all!
Lesley Stalker and her team of tax advisors were awarded “Tax Team of the Year” at the 2006 Lexis Nexis Tax Awards. For more information on tax planning visit www.rjp.co.uk
