Business owners urged to act promptly
With the next general election due to take place before the end of January 2025, Gareth Smyth, CEO at Manchester-based business advisers Hilton Smythe, is urging entrepreneurs considering the sale of their business assets to act promptly.
“When discussing succession or exit strategies with business owners, the general election is consistently mentioned as a significant reason for selling” says Smyth. “A new Government means a new tax regime – with potential repercussions for the amount of value that business owners can cash out on upon selling.”
While appearing to rule out a May election, Rishi Sunak recently told broadcasters that his “working assumption” is that the general election will take place in the second half of 2024.
However, with Labour having a commanding lead in the polls, a regime change raises the potential of Capital Gains Tax (CGT) increasing – a levy on profits made from the sale of business assets, shares, property and personal possessions over a certain price threshold.
A new Government might also consider a reduction in Business Asset Disposal Relief, available to sole traders or business partners that have owned the business for at least two years.
While Rachel Reeves, Shadow Chancellor, has said that the Labour party will not increase the rate of CGT, it offers an easy revenue-raising option for any future Government because it does not directly impact on the majority of the population.
For this reason, business owners are being urged to take action now in order to capitalise on the existing 20% rate (10% on the first million with Business Asset Disposal Relief). Essentially, a raise in CGT could easily result in business owners having to work significantly harder on the value of their business, to arrive at the same net proceeds, the extent to which dependent on any potential change.
By way of crude example and making certain assumptions, the 100% shareholder of a business selling their shares for say £2m, would typically pay CGT of 10% on the first million and 20% on the second million (deducting any costs and personal allowance from the gain), so say £300,000 in CGT for ease of numbers. If the Government brought CGT in line with income tax for example, a higher rate taxpayer could be paying £500,000 in CGT (assuming there are no changes to Business Asset Disposal Relief on the first million and certain other assumptions).
“You should aim to get the ball rolling on your exit as soon as possible,” says Hilton Smythe CEO
“You should aim to get the ball rolling on your exit as soon as possible to lock in the current rate, as the finalisation of deals can take up to a year,” says Smyth. “This is because you’ll have to prepare the business for sale in the first instance, ensuring that high-quality, up-to-date financials and legal documentation (such as incorporation documents, property leases, IP rights, customer-supplier agreements, etc.), are in place.
“An adviser such as Hilton Smythe will then need to prepare marketing documentation and conduct research into potential buyers, organise meetings with interested parties, get offers on the table, negotiate those offers, sign heads of terms, and then conduct financial and legal due diligence. Only then will your deal be complete.”
Other industry watchers are already seeing an uptick in demand from business owners wanting to cash out on the value they have generated. The start of 2024 has also seen an influx of larger companies looking to acquire smaller organisations and build their portfolios, which makes this year a good time to consider your exit plans.
Capital Gains Tax – an easy revenue-raising option for the next Government
According to ONS data, Capital Gains Tax stands out as one of the Government’s most significant revenue sources, with CGT tax receipts having increased by 14% between March 2022 and February 2023 – faster than any other personal tax receipts.
And the CGT gravy train shows no sign of halting any time soon.
The annual exempt amount (AEA) (the annual tax-free allowance of capital gains) has already been subject to several reductions over the years, as the Treasury seeks to plug its fiscal “black hole”. In FY 2022/23, the AEA was £12,300, before being reduced to £6000 in FY 2023/24 and halved again to £3000 in FY 2024/25.
Possible knock-on effects of CGT increases for the private equity market
A potential increase in the rate of CGT is also widely regarded as the most significant threat to the UK’s private equity (PE) market, with repercussions for business owners wanting to sell to PE firms, potentially increasing the cost of investment and exit for the PE firm, thereby potentially reducing the price paid for a suitable business.
Recent research by private equity firm Connection Capital found that nearly half of respondents (46%) would consider reducing the amount they allocate to private equity investments if CGT were to be raised to match income tax – an oft-floated idea.
This is particularly significant against a backdrop of already dwindling private equity dealmaking.