HMRC have recently confirmed that the new Off-Payroll rules explained in our earlier blog https://www.ross-brooke.co.uk/off-payroll-working-rules-from-5-april-2020-what-are-they-how-do-they-affect-me-and-what-should-i-do-now/ will only apply to work performed after 5 April 2021, regardless of actual payment date.
Whilst that is good news for contractors it is only a very short term fix to a very big problem.
Many contractors have resigned themselves to the fact that they will no longer be able to contract through their own limited company and will either revert to employment under PAYE or take up engagements through an umbrella company. So that then raises the question what should be done with the company and the money sitting in it?
The first option is do nothing. If the contractor is reaching the end of his working career he might decide to keep the company open and simply withdraw the funds out over a number of years at a low tax rate or retain money in the company and build a property portfolio for example http://why-you-should-consider-a-family-investment-company-as-part-of-your-overall-strategy
However, if the contractor no longer needs the company, then after paying outstanding VAT, PAYE and corporation tax etc, he could off course pay any remaining funds out as a dividend. However, this may not be tax efficient as it will be taxed as income possibly at 32.5% or 38.1%.
Once a company has come to the end if its useful life the shareholders can wind up a company and extract the value in the company as a capital distribution subject to capital gains tax rather than income tax. As capital gains tax is currently 20% this may be a more attractive route than dividends especially as each taxpayer has an annual capital gains allowance (2021/22 rates) of £12,300 each, so potentially husband and wife could extract £24,600 entirely tax free.
Furthermore, subject to certain conditions, small business owners can use Business Asset Disposal Relief (BADR) (formerly known as Entrepreneurs’ Relief) to reduce the tax rate to just 10%.
There are a number of important caveats that should be mentioned here.
- If the value to be extracted is less than £25,000 then closing the company is a very informal and simple process;
- However, if the value is more than £25,000 then a formal liquidation is required. This is not a black mark against the company or directors merely a process than needs to be followed. Obviously this will involve professional fees but we can recommend a liquidator to you if required.
- If cash in the company is say £35,000 then a combination of pension contributions or small dividends could be used to reduce the cash in the company to below £25,000, although advice regarding pension contributions should certainly be taken first.
- There are rumours that BADR might be altered or withdrawn at some point. That could spell the end of the 10% tax rate.
- Since April 2016 a Targeted Anti Avoidance Rule has been in place to prevent taxpayers abusing the generous capital gains tax treatment. Details are here https://www.gov.uk/hmrc-internal-manuals/company-taxation-manual/ctm36305 but in a nutshell, if you believe that you may go back into contracting within 2 years it may be unwise to close the company using the capital distribution route. Although there are exceptions, contracting again within a period of 2 years from the start of the winding up, could mean that the funds extracted are reclassified and taxed as income rather than capital
Every taxpayer’s situation is different, and because of the current uncertain and changing nature of events, and the fact that we have tried to keep this blog on complex matters as concise as possible, we can accept no liability for any action that you take or do not take as a result of reading this short article.
However, we hope that we have highlighted to you some of the options and if you are affected by the Off-payroll rules then we would welcome the chance to speak to you direct to provide individual tailored advice.