Property developers: Winding up, Capital treatment and BADR

Lucy Mangan - Menzies Accountant

Lucy Mangan – Partner

In April 2016 new anti-avoidance rules came into effect which could restrict capital treatment and therefore Business Asset Disposal Relief (BADR) (formally Entrepreneur’s Relief) being available on capital distributions on the winding-up of a company.

We wrote an article at the time highlighting how these rules could impact property developers if carefully planning was not considered, but time has passed so time to review the impact.

Recap on the impact of anti- avoidance rules

On winding up a company in most circumstances the distributions to the shareholders can be treated as capital receipts and subject to capital gains tax.  This is beneficial as capital gains tax rates on disposal of shares are currently much lower than income tax rates – 20% compared to a dividend tax rate of up to 38.1%.

Capital treatment has the added advantage in that if BADR (formally ER) is available the tax rate is reduced further to 10%.  Since the anti-avoidance rules were brought in the lifetime allowance for BADR has been reduced from £10 million to £1 million but this is still a relief worth having.  

The anti-avoidance rules if they applicable deny capital treatment and the distributions would be taxed as a dividend at the much tax rates. 

When do the anti-avoidance rules apply ?

The anti-avoidance rules are complex and advice should be sought for individual circumstances but essentially, they are aimed at situations where:

  • Individuals wind up a company and within 2 years carry on a similar trade or activity either directly or through another company, AND,
  • It is ‘reasonable to assume’ that obtaining an income tax advantage was the main or one of the main purposes for winding up the original company.

Therefore, there is a factual and subjective element to the test.

What could this mean for property developers?

accountancy housing

As set out on our original article property developers commonly use SPV structures liquidating the company on completion of that development.  For long term property developers this process is likely to be repeated each time for other developments therefore resulting in the shareholders carrying on a similar trade within 2 years.

what is our advice now time has passed?

Our original article stated, ‘don’t panic but take care’ and this still stands.  Whilst the rules have now been in place for 4 years the legislation is still young and no cases have yet come to court involving property developers to provide any guidance.

Whilst the anti-avoidance rules did and do continue to create uncertainty for property developers there were already other rules which provided HMRC with the same powers to challenge the capital treatment and also both tests above needed to be met. Whilst the factual test may be met the main reason SPV’s are used by property developers are, in most cases, arguably not tax reasons but strong commercial and legal reason such as:

  • They may instigate new projects with different sets of investors, thus requiring a new vehicle to carry out a particular project
  • Banks often require a separate clean vehicle to finance a particular project
  • The commercial risk can be segregated better in a company and separately from other projects
  • A liquidation at the end of the project provides finality and a commercial certainty

Our advice therefore remains the same:

  1. Clearly document the reasons why property developments are carried out in an SPV – this is the best defence against the subjective part of the test in the new rules.
  2. If in doubt seek professional advice.
Posted in Blog, Property & construction