We have revised this note to reflect Royal Assent to the Finance Act 2008.
The changes to capital gains tax announced in the 2007 Pre-Budget Report (PBR) and the proposed new entrepreneurs' relief have significant implications for individual shareholders. This is likely to have an impact on the timing and structure of share sales by individuals.
This article looks at:
1. The tax issues for shareholders who may be considering disposing of their shares, including how any deferred consideration, in the form of loan notes or earn-outs, should be structured.
2. The impact of the changes on shareholders who have already exchanged shares for loan notes or earn-out rights.
3. What the proposals mean for investors in shares which are traded on AIM or which qualify for relief under the Enterprise Investment Scheme.
This article concentrates on the capital gains tax (CGT) (www.practicallaw.com/8-107-5849) treatment of gains on share sales coming into charge after 5 April 2008, including the effect of the transitional rules on gains rolled over or held over before 6 April 2008. For planning opportunities used before 6 April 2008, see Practice note, Share sales: pre 6 April 2008 CGT position and planning (www.practicallaw.com/7-382-4251).
Taper relief (www.practicallaw.com/6-107-7364) and indexation allowance (www.practicallaw.com/9-107-6711) for individuals has been abolished for disposals taking place after 5 April 2008. All gains on disposals made on or after 6 April 2008 will be taxed at a flat rate of 18% unless they qualify for a relief or exemption from CGT. A new relief from CGT, called Entrepreneurs' relief (www.practicallaw.com/4-383-5915), will reduce the effective rate of CGT to 10% on disposals on or after 6 April 2008 of certain shares and securities of trading companies. The conditions for entrepreneurs' relief are considerably more restrictive than those for business assets taper relief (BATR). For more detail, see Entrepreneurs' relief.
Individuals, trustees and personal representatives are subject to CGT on gains made on the disposal of shares. Tax is charged on the net gain, generally calculated by deducting the acquisition cost from the sale proceeds. The acquisition cost is the amount paid for the asset, increased by any other allowable expenses (such as stamp duty (www.practicallaw.com/4-107-7303)). For more detail about the taxation of chargeable gains generally, including computation of gains, see Practice note, Tax on chargeable gains: general principles (www.practicallaw.com/1-205-7008).
The key changes are that with effect from 6 April 2008:
All gains accruing to individuals, trustees and personal representatives on disposals made or after 6 April 2008 are subject to a single rate of CGT of 18% (section 6, Finance Act 2008).
Taper relief is abolished for disposals on or after that date (paragraphs 25 and 45, Schedule 2, Finance Act 2008).
The new single rate of CGT (subject to allowable losses and any available relief) also applies to held over gains coming into charge on or after 6 April 2008.
A number of other measures also apply to disposals made on or after 6 April 2008. They are:
The withdrawal of indexation allowance for individuals, trustees and personal representatives on assets held at 6 April 1998 (paragraphs 77 to 83, Schedule 2, Finance Act 2008).
The abolition of the 'kink test' (paragraphs 57 to 71, Schedule 2, Finance Act 2008). This means that all assets held on 31 March 1982 are deemed to have an acquisition cost equivalent to their market value on that date.
The withdrawal of halving relief (paragraphs 72 to 76, Schedule 2, Finance Act 2008). Previously, halving relief may have been available where a chargeable gain effectively included a deferred gain that relates to a period before 31 March 1982.
Changes to the share identification rules (paragraphs 84 to 100, Schedule 2, Finance Act 2008). These rules will be simplified.
The draft legislation implementing these changes was published on 24 January 2008 and has now been enacted in the Finance Act 2008. The new legislation applies to disposals made on or after 6 April 2008, with no transitional relief. For more detail, see Legal update, Capital gains tax reform: PBR draft legislation published (www.practicallaw.com/6-380-5795).
Other CGT reliefs continue to apply. These include:
The annual CGT exemption, see Practice note, Tax on chargeable gains: general principles: Annual exemption (www.practicallaw.com/1-205-7008).
Principal private residence relief, see Practice note, Tax on chargeable gains: general principles: Private residence (www.practicallaw.com/1-205-7008).
Business assets roll-over relief (www.practicallaw.com/7-201-4025), see Practice note, Tax on chargeable gains: general principles: Rollover relief on replacement of business assets (www.practicallaw.com/1-205-7008).
Business asset gift hold over relief, see Practice note, Tax on chargeable gains: general principles: Gifts of business assets (www.practicallaw.com/1-205-7008).
For more information, see Legal update, Pre-Budget Report 2007: Capital gains tax reform (www.practicallaw.com/5-376-6308). For the HMRC 2007 PBR announcement, see 2007 Pre-Budget Report - PBRN 17 - Capital gains tax reform.
Certain shares may qualify for the proposed new entrepreneurs' relief, giving an effective tax rate of 10% on the first £1 million of lifetime gains, see Entrepreneurs' relief.
The move to a single rate of 18% is clearly disappointing for individuals who have held shares for at least two years and who would, therefore, on a disposal prior to 6 April 2008, have benefited from an effective rate of CGT of 10% (higher rate taxpayers) on an unlimited gain.
Individuals who acquired their shares before April 1998 are in an even worse position because they also lose accrued indexation allowance. Indexation allowance is added to the acquisition cost when calculating the net chargeable gain. Abolition of indexation allowance will, therefore, produce a bigger chargeable gain. This last point means that even those who qualify for the entrepreneurs' relief are worse off because their lifetime allowance of £1 million of gains will be exhausted more quickly than would be the case if indexation allowance were not abolished.
Shareholders who have held their shares for less than two years are better off under the new rules. They will pay a lower effective rate of tax than under the previous rules. Higher rate taxpayers were taxed on gains on business assets held for less than one year at 40% and at an effective rate of 20% on gains on business assets held for at least one year (but less than two).
It is still more advantageous for most individual shareholders to receive value for shares in capital form rather than suffer an income tax charge on the same receipt:
Pre-sale dividends. For share sales after 5 April 2008, it is still not generally be tax-efficient for an individual shareholder to receive a pre-sale dividend. This is because higher rate taxpayers are taxed at an effective rate of 25% on dividends, considerably higher than the new rate of 18% on gains on a share sale (10% if the entrepreneurs' relief applies). A basic rate taxpayer who does not have his annual CGT exemption available to set against a gain will continue to prefer to receive a pre-sale dividend because his income tax liability on the dividend will be fully covered by the accompanying tax credit. However, this scenario is likely to be rare in practice. For more detail, see Practice note, Dividends: tax: For individuals (www.practicallaw.com/1-366-8036).
Returning value to shareholders. Likewise, on a return of value to shareholders after 5 April 2008, most shareholders are still better off receiving the value in capital form rather than income form, see Article, Returning cash to shareholders: possible structures, PLC Magazine 2005. (www.practicallaw.com/3-200-5476)
Part of the consideration for a share sale can be taken in the form of loan notes. If the buyer is willing to issue the loan notes so that they are redeemed in tranches over a number of years, the individual can make use of several years' worth of annual CGT exemption (for more detail about structuring loan notes, see Loan notes). Alternatively, shareholders may have capital losses available to reduce or eliminate the gain.
If entrepreneurs' relief is not available, individuals may also want to consider transferring part of their shareholding to their spouse or civil partner before the sale. Alternatively, loan notes can be transferred after issue. This transfer would take place on a no gain/no loss basis for CGT purposes. Both spouses/partners could then use their respective annual CGT exemptions to reduce the tax liability on the sale of the shares or redemption of the loan notes.
If loan notes are unattractive to the seller or the buyer, the seller may wish to consider holding over the gain against EIS shares.
The changes are good news for the majority of higher rate taxpayers. Under the taper relief regime, such shareholders would have suffered a minimum effective tax rate of 24% on a gain on the disposal of non-business assets.
However, shareholders who acquired their shares before September 1988 will be worse off under the new rules. This is because the cut in the tax rate (from 24% to 18%) is outweighed by the loss of indexation allowance on those shares.
Shares which were not business assets will not qualify for the proposed new entrepreneurs' relief, see Entrepreneurs' relief.
Almost all higher rate tax paying shareholders will prefer to receive a return of value from the company in capital form rather than as an income receipt after 5 April 2008. A higher rate taxpayer pays income tax at an effective rate of 25% on a dividend. Before 6 April 2008 he was taxed on a return of value in capital form at an effective rate between 24% and 40%, unless the annual CGT exemption was available. As a result, higher rate taxpayers generally prefer to receive capital if the gain falls within their annual CGT exemption. However, higher rate taxpayers who do not have their annual CGT exemption available may have preferred to receive a return of value in income form if they had a low CGT acquisition cost in the shares and/or they had accrued little or no taper relief. That is not the case after 5 April 2008 because all gains are taxed at a single rate of 18%, below the effective income tax rate of 25% on dividends. As a result, it will be more tax efficient for a higher rate taxpayer to receive a return of value in capital form, regardless of whether the annual CGT exemption is available, unless he has other losses or reliefs to set against an income receipt.
Basic rate taxpayers are in practice likely to continue to be neutral between capital and income treatment on a return of value. They would pay no further income tax on a dividend receipt. If the payment were capital, it is likely that this would be covered by their annual CGT exemption.
It is common for part of the consideration for the sale of shares in a company to take the form of loan notes issued by the buyer. This has the effect of deferring the seller's tax liability until the loan notes are redeemed or disposed of, provided the share for debt exchange is a reorganisation within the meaning of section 135 of the TCGA 1992 and the loan notes are debentures. Loan notes are commonly redeemed in tranches over a number of years. This allows the seller to use several years' worth of his annual CGT exemption to reduce his tax liability.
Loan notes which are both securities and non-qualifying corporate bonds (non-QCBs) (www.practicallaw.com/9-107-6891) may qualify for entrepreneurs' relief, see Entrepreneurs' relief. Gains which are held over into qualifying corporate bonds (QCBs) (www.practicallaw.com/3-107-7092) will qualify for entrepreneurs' relief if the original gain on the shares would have qualified.
Loan notes issued on a reorganisation are automatically treated as securities acquired at the same time and for the same price as the shares sold, provided the loan notes are debentures.
Loan notes should have a term of at least six months in order to ensure that the tax liability is deferred. For more detail, see Practice note, Share purchases: taxation of the seller: Deferring payment of tax (www.practicallaw.com/2-376-4339)
If shares are exchanged for QCB loan notes, the gain on the shares is calculated at the time of the exchange. The gain is calculated by reference to the market value of the shares at the time of the exchange but no tax is due at that time. Instead the gain is "held over" (section 116(10), TCGA 1992). The held-over gain comes into charge when the QCBs are redeemed or otherwise disposed of. (The QCBs themselves are not assets for CGT purposes so their disposal does not attract CGT).
If QCBs issued before 6 April 2008 are redeemed (or otherwise disposed of) after 5 April 2008, the held-over gain will be taxed at 18% without taper relief or indexation allowance (if the shares were acquired before April 1998) (section 6, Finance Act 2008)).
The held-over gain will qualify for entrepreneurs' relief, provided the individual would have qualified for the relief at the time of the exchange of the shares for QCBs, had the relief been in force at that time, see Entrepreneurs' relief. Only the original shareholder can claim transitional relief, not his spouse or civil partner (paragraph 6(1), Schedule 3, Finance Act 2008)).
The position is illustrated in box, Example: held-over gain comes into charge after 5 April 2008.
Ann Smith, a higher rate taxpayer, acquired shares in a trading company for £100,000 in May 2002
In January 2005, she exchanged the shares for a QCB. The market value of the shares at that time was £160,000.
Maximum BATR would have been available in respect of the shares.
If she disposes of the QCB in January 2009, the chargeable gain of £60,000 which has been held over will be liable to CGT in 2008/2009. Taper relief will not be available. If she has are no allowable losses or annual exemption available, the gain of £60,000 will be taxable at 18%, giving a tax charge of £10,800. An individual can, under a transitional provision contained in new section 168S (6) of TCGA, make a claim for entrepreneurs' relief. If Ann Smith makes that claim, the gain of £60,000 will be reduced by 4/9, giving a tax charge of £6,000.
If she had disposed of the QCB in January 2008, the chargeable gain would have been liable to CGT in 2007/2008. The gain of £60,000 would have benefited from 75% taper relief, with the effect that she would have paid tax on only 25% (£15,000), giving a tax charge of £6,000 (see Practice note, Taper relief: overview: Rates of CGT taper relief (www.practicallaw.com/3-376-6347)).
If the loan notes are redeemed (or otherwise disposed of) after 5 April 2008, the gain will be taxed at 18% with no taper relief or indexation allowance (section 6, Finance Act 2008). This will be disadvantageous where the noteholder had accrued maximum BATR as a gain on a disposal or redemption of the loan notes before 6 April 2008 would have been taxed at an effective rate of 10%.
The position is different if the loan notes were non-business assets (for example, they were received by a portfolio investor on the takeover of a listed company in which he previously held shares) or the noteholder had not yet accrued maximum BATR. In this situation, the changes will almost certainly lead to a lower effective tax rate on redemption of the loan notes after 5 April 2008 than under the previous rules.
It is possible but unlikely that the gain accruing on the disposal of the non-QCB loan notes will qualify for entrepreneurs' relief, see Entrepreneurs' relief. Where the exchange took place before 6 April 2008, it is not possible to elect to trigger a disposal at the time of issue of the loan notes in order to qualify for entrepreneurs's relief on the original shares under section 169Q of the TCGA 1992 (inserted by paragraph 2 of Schedule 3 to the Finance Act 2008 ).
After 5 April 2008, the only tax benefit of exchanging shares for loan notes will be to defer payment of CGT. This is, of course, a very valuable benefit as it allows the taxpayer to make maximum use of all available reliefs, including the annual CGT exemption. To achieve a tax deferral, the loan note simply needs to be a debenture (provided the other conditions in section 135 of the TCGA 1992 are satisfied, see Practice note, Share purchases: taxation of the seller: Deferring payment of tax (www.practicallaw.com/2-376-4339)).
A key reason for structuring loan notes as non-QCBs used to be to ensure that taper relief would continue to run (particularly where the shares being sold were non-business assets for the shareholders, for example on a takeover of a listed company). For disposals after 5 April 2008, this is irrelevant.
It is possible therefore that, on share sales after 5 April 2008, fewer loan notes will be structured as non-QCBs, particularly where the individual wishes to claim entrepreneurs' relief on the gain deferred into the loan notes. This is because a gain deferred into a QCB will qualify for entrepreneurs' relief if the disposal of the relevant shares would have qualified, but the liability to pay CGT is not triggered until the QCB is redeemed (new section 169R, TCGA 1992, inserted by paragraph 2, Schedule 3, Finance Act 2008). By contrast, the disposal of a non-QCB is unlikely to qualify for entrepreneurs' relief. The ability to elect to trigger a disposal at the time of the share for non-QCB exchange (and claim entrepreneurs' relief on the disposal under new section 169Q of the TCGA 1992, (inserted by paragraph 2 of Schedule 3 to the Finance Act 2008)) may accelerate the CGT liability. Sellers are likely to prefer bank-guaranteed QCBs in this situation.
However, non-QCB loan notes continue to provide tax relief if the loan notes are sold or redeemed for less than face value. Any gain held over into QCB loan notes remains fully taxable when the loan notes are disposed of, even if they are sold or redeemed at less than face value. By contrast, the gain on a disposal of a non-QCB loan note is calculated by reference to the actual disposal proceeds. This means that if the issuer fails to redeem the loan notes, there is no tax charge, see Practice note, Share purchases: taxation of the seller: Deferring payment of tax (www.practicallaw.com/2-376-4339). As a result, for sellers who are not concerned by entrepreneurs' relief, it may still be advantageous to structure a loan note as a non-QCB, particularly if the loan notes are to be redeemed over a number of years or the seller has concerns about the creditworthiness of the buyer.
The possibility of claiming entrepreneurs' relief may affect how an earn-out on a share sale should be structured and whether a seller whose earn-out right is due to be satisfied in shares or loan notes should elect (under section 138A of the TCGA 1992) to crystallise a tax charge at the time of the share sale (rather than when the earn-out is satisfied):
Earn-out rights created before 6 April 2008. The election may benefit a seller who qualified for maximum BATR in respect of his shares. The right-holder must consider whether the possible tax saving to be achieved by making the election (10% instead of 18%) outweighs the cash flow cost of funding the tax before the earn-out is received.
The seller may qualify for entrepreneurs' relief on the disposal of the new shares/loan notes if he meets the share-holding and employment/office holder requirements. If he does qualify, an election under section 138A of TCGA will be beneficial only if the total qualifying gains (including any held-over gains on disposal of QCBs received in exchange for the original shares) are likely to exceed £1 million. There will be no point in bringing forward the payment date of the tax if the 10% rate would apply when the holder disposes of the earn-out right or resulting securities.
For a brief summary of the implications of the CGT changes for existing earn-outs and future sales with an earn-out element, see Legal update, CGT changes: how will they affect earn-outs arising from share sales? (www.practicallaw.com/3-381-5324). For more detail about the taxation of earn-outs, including examples, see Practice note, Earn-outs: taxation of the earn-out (www.practicallaw.com/9-107-3755).
Individuals who subscribe for shares which qualify for relief under the Enterprise Investment Scheme (EIS) (www.practicallaw.com/9-107-6532) are exempt from CGT on the disposal of qualifying shares, see Practice note, Enterprise Investment Scheme: Capital gains tax exemption and loss relief (www.practicallaw.com/2-375-9154).
The conditions for EIS relief are complex and can be difficult to satisfy. However, it is possible that the increased CGT rate on gains on the disposal of shares in unlisted trading companies (which qualify for BATR before 6 April 2008) may lead to renewed interest in the EIS by individual investors looking for a method of tax privileged investment in the shares of unlisted trading companies.
Individuals who have realised a gain can hold it over against the cost of shares in a company qualifying for EIS relief. When gains held over prior to 6 April 2008 come into charge on the disposal of EIS shares after that date, the taxpayer can claim entrepreneurs' relief if, had the disposal of his original holding taken place after 6 April 2008, he would have qualified for the relief.
Shares traded on AIM (www.practicallaw.com/8-107-6392) which are held by individuals are affected in two ways by the 2007 Pre-Budget Report:
Gains on shares in trading companies which are traded on AIM will be taxed at the same rate (18%) as gains on listed shares unless they qualify for the effective rate of 10% under the proposed entrepreneurs' relief (which is unlikely in practice). Previously, shares in trading companies (or holding companies of trading groups) which are traded on AIM were business assets for taper relief purposes and thus could benefit from the 10% rate once the individual had held his shares for at least two years. The increase in the tax rate on gains may reduce the attraction of certain AIM-traded shares as a tax efficient method of investing in shares which are traded on a regulated market. However, shares in non-trading companies which are traded on AIM, such as property investment companies, were generally non-business assets for taper relief purposes. This means that the changes are likely to result in a reduced effective tax rate on gains on the disposal of shares in these companies after 5 April 2008.
Certain shares traded on AIM are exempt from inheritance tax because they qualify for business property relief. The ability to transfer the unused proportion of the inheritance tax nil rate band between spouses and civil partners may reduce the value of the availability of business property relief (section 9 and Schedule 4, Finance Act 2008). This may make investment in AIM-traded shares less attractive to some individuals. For more detail, see Legal update, Pre-Budget Report 2007: Inheritance tax: nil-rate band to be transferable (www.practicallaw.com/5-376-6308).
For more detail about the tax treatment of shares traded on AIM, see Practice note, Investing on AIM: overview of tax reliefs (www.practicallaw.com/5-205-7983).
Private equity fund executives who were entitled to maximum BATR on their interest in the fund clearly face an increased tax rate from 10% to 18% to the extent their gain exceeds £1 million or if they do not hold 5% of the shares and voting rights in the company. However, the CGT changes will also have the following advantages for such individuals:
A reduced effective tax rate on investments held for less than two years.
An end to concerns about the time at which taper relief starts to accrue in respect of their carried interest.
As it is necessary to hold 5% of the shares for a period of 12 months prior to disposal (see Entrepreneurs' relief) managers may prefer to receive their maximum share entitlement on Day 1, with a downward ratchet on their shares, rather than achieving their eventual final entitlement immediately prior to exit (as would be the case if the investor's shares suffered the downward ratchet).
For more detail about the tax treatment of private equity fund executives, see Practice note, Private equity and tax: the private equity fund and executives (www.practicallaw.com/6-376-4323).
This practice note does not consider the position of employee shareholders and optionholders. For comment on how the CGT changes in the Finance Act 2008 affect employee shareholders and optionholders, see:
Entrepreneurs' relief will apply to the first £1 million of qualifying capital gains arising after 5 April 2008 in respect of which an individual (or a trustee) makes a claim. Four ninths of any qualifying capital gains will be exempt from CGT. At current rates, this will give an effective CGT rate of 10% on those gains (5/9 x 18%), equal to the effective rate for a higher rate taxpayer with full BATR up to 5 April 2008, see Example: entrepreneurs' relief. The draft legislation was published on 28 February 2008 and was included (virtually unamended) in the Finance Act 2008 (section 7 and Schedule 3, Finance Act 2008).
Qualifying capital gains are those arising on disposals by individuals of:
Shares (or securities, including non-QCB loan notes) of a trading company or holding company of a trading group, if, throughout the period of one year before the disposal, the taxpayer has been an officer or employee of the company (or a company in the same group) and throughout that period has held at least five per cent of the ordinary share capital, allowing him to exercise at least five per cent of the voting rights.
Relief will also be available if the company has ceased trading provided the conditions above were satisfied throughout the period of one year ending with the date on which the company ceased trading, and the trading ceased within the period of three years ending with the date of the disposal.
The whole or part of a business as a going concern provided that the business has been owned by the individual (whether as a sole trader or in partnership) throughout the period of one year ending with the date of the disposal. Shares and securities and other assets held by the business for investment purposes or assets not used for the purposes of the business, will not qualify for relief. In effect, this means that there must be a disposal of the whole or part of a trade (qualifying business). The draft legislation extends the meaning of a disposal of the whole or part of a business to ensure that the following are within the scope of the relief:
disposals by sole traders when converting to a partnership;
part disposals by existing partners when a new partner joins a partnership; and
full disposals by partners.
Assets formerly used in a qualifying business which simply stopped, rather than being sold as a going concern, if they are sold within three years after cessation of the business and the business has been owned by the individual (whether as a sole trader or in partnership) throughout the period of one year ending with the date on which the business ceases to be carried on.
Personal assets used by a trading company or partnership, if they were owned by someone qualifying for the relief on a disposal of the business or shares (or other securities) in the company (see above) and the individual is withdrawing from the business.
"Holding company", "trading company" and "trading group" have the same meaning as they do under the taper relief rules. The interpretation is set out in new section 165A of TCGA, introduced by Schedule 2 to the Finance Act 2008. There is a £1 million lifetime cap on the amount of qualifying capital gains.
The cap applies to all gains realised on or after 6 April 2008 even if the gains relate, wholly or partly, to a period before 6 April 2008. However, gains realised before 6 April 2008 do not count towards the lifetime limit unless they have been deferred and come into charge after 5 April 2008.
Entrepreneurs' relief must be claimed. The claim must be made on or before the first anniversary of 31 January after the tax year of disposal (or deemed disposal where the consideration is in the form of shares or loan notes). Therefore, if a disposal or deemed disposal is made on 1 May 2008 (that is, in the 2008/2009 tax year), relief must be claimed on or before 31 January 2011. Taxpayers who have unrelated losses available can offset them against the reduced gain.
Although the qualifying period for the new relief is shorter than that for maximum BATR (one year as opposed to two), the new relief is more restrictive than BATR in a number of ways. In particular:
There is a £1 million lifetime cap on the amount of qualifying capital gains.
In relation to share disposals, the relief only applies to individuals who are employees or officers and who hold at least a 5% stake in a trading company. In relation to unlisted shares, BATR has no minimum holding requirement nor is it necessary for the shareholder to be an employee or officer. In relation to BATR on disposals of listed shares, it is sufficient for one of these two conditions to be satisfied.
Entrepreneurs' relief will not apply to shares in non-trading companies, such as those carrying on a property investment business. BATR can apply to shares in non-trading companies in some circumstances.
No transitional measures have been introduced that would allow taxpayers to apply the existing taper relief regime retrospectively.
Taxpayers who meet the criteria for entrepreneurs' relief in respect of their shares may, if they are receiving part of the consideration in the form of QCB loan notes, elect to claim the relief in the calculation of the gain to be held over. The deadline for making the election will be the same as if the date of issue of the QCB had been the date of disposal for the purposes of CGT.
There is a transitional rule for taxpayers who received QCBs in exchange for shares before 6 April 2008 and who dispose of them after that date. When the individual first disposes of some of the consideration loan notes, he can elect for entrepreneurs' relief to apply as if he were disposing of the original shares in the later tax year.
However, the new relief is unlikely to benefit taxpayers who exchange their shares for non-QCBs, given the 5% shareholding and voting requirement. For exchanges that occur on or after 6 April 2008, taxpayers will be able to elect to trigger a disposal at the time of the exchange. This will be beneficial if a disposal of the shares would have qualified for relief but a disposal or redemption of the non-QCBs would not. However, triggering a disposal may give rise to cashflow issues if the tax charge arises before the loan notes are redeemed or disposed of.
Taxpayers who acquired their non-QCB loan notes on an exchange occurring before 6 April 2008 will not be able to elect in this way and so are unlikely to qualify for relief.
For more detail about entrepreneurs' relief, see Practice note, Entrepreneurs' relief (www.practicallaw.com/4-381-1491).
John bought all the shares in A limited, a trading company, in 2004 for £1000.
On 30 April 2008, he sells the shares for £6000.
His qualifying capital gain is £5000 .
Of the £5000 gain, £2222 is exempt (4/9 of £5000) and the remaining £2778 is taxable at 18% (assuming that he has already used his annual exemption for 2008-09).
£2778 @ 18% = £500. This is equal to 10% of his qualifying capital gain (£5000).