Incorporation into Limited Company
The first driver to our development of landlord business restructuring was contained in s.24 of the Finance Act (No 2) 2015, variously known as “The Landlord Tax”, “The Tenant Tax”, or simply “section 24”.
In real terms, it meant that in sole trader or partnership businesses for the 2019/20 tax year 75% of finance costs were not allowable against income tax, increasing to 100% in the 2020/21 tax year. Key to our strategy was the fact that rental businesses held in limited companies (Ltd) would still be able to claim 100% of finance costs as deductible expenses. However, as a company is treated as a separate person from its owners, there were three problems to overcome in moving properties from personal ownership to a company;
- tax charge of CGT
- tax charge of SDLT
- refinancing any loans into the company
If your business is eligible we can solve these three issues, and transfer the business into a limited company with no immediate tax charge, and no need to lose your current mortgages. We are the originators, with Property118.com, of the Substantial Incorporation Strategy.
This process involved a transfer of the ‘whole business’ as a going concern into a company. This would normally create a CGT charge, but if the business qualifies for a relief from CGT called ‘incorporation relief’ the CGT is not charged at that point, but will roll over into the shares issued by the company to acquire the business.
Whether you are a qualifying business or a mere investor is a question of fact. HMRC manuals say that they “accept that incorporation relief will be available where an individual spends 20 hours or more a week personally undertaking the sort of activities that are indicative of a business. Other cases should be considered carefully.” These are the criteria that we assess in advising clients on their eligibility.
(a) whether the activity is a ‘serious undertaking earnestly pursued’,
(b) whether the activity is an occupation or function actively pursued with reasonable or recognisable continuity,
(c) whether the activity has a certain measure of substance,
(d) whether the activity was conducted in a regular manner and on sound and recognised business principles,
(e) whether the activity is predominantly concerned with the making of taxable supplies to consumers for a consideration,
(f) lastly, whether the taxable supplies are of a kind which, subject to differences of detail, are commonly made by those who seek to profit by them.
As is the case for all business owners, you are entitled to engage others to do work for you, such as employees, agents or contractors. As the owner of the business you remain legally accountable for their actions.
Therefore, whilst contractors act in law as your ‘Agent’ they are essentially an extension of your own activity. Once the properties are beneficially owned by the company their value is rebased to the incorporation date value for onward sale purposes, meaning any sales would be charged to Corporation Tax (currently 19%) but only on profit from the rebased value. Stamp Duty Land Tax.
If a business is a partnership the SIS is exempt from SDLT. The definition of a partnership is again a question of fact-“two or more persons engaged in business with a view to making profit”. There is no need for any written formalities, nor HMRC registration, to meet this legal test. We have acted for many husband and wife partnerships-so long as there is sharing of profits and sharing of liabilities in the business, and it passes the CGT tests above, it will qualify for SDLT exemption Sole traders can still incorporate using the SIS, but will not obtain SDLT exemption.
This strategy includes a transfer of the beneficial interests in the properties and all other assets to the company. Financing remains in personal names until it makes commercial sense to refinance into the company name. On this later refinancing to the company there is no CGT or SDLT payable, as they have been accounted for at the initial incorporation.
So-for qualifying partnership businesses moving into a Limited Company is realistically achievable with no tax due or refinancing requirements. It is also possible to structure the share issue as we do for Smart Companies, explained on the Smart Company page.