When a company has ceased to make sales and holds significant amounts of cash, should it be treated as a non-trading company for entrepreneurs’ relief? This point is often raised when the company is kept alive to act as a money box for the shareholders and directors.
The entrepreneurs’ relief (ER) rules helpfully have a three-year buffer written into them. If the company is liquidated within three years of the date on which the company ceased to trade, the proceeds from the liquidation (not an informal striking-off) are treated as capital gains which qualify for ER, assuming the other ER conditions are also met. However, if the liquidation happens more than three years after the cessation of trade, ER is not due. The key question is when the trade ceased.
The case of Mr & Mrs Potter may help in such a situation. Their successful company suffered in the 2008 crash and made its last sale in March 2009. At that date it held about £1m in cash. The company invested £800,000 in two six-year bonds which paid interest of £35,000 a year from 2009 to 2015.
The Potters continued to attempt to make sales by telephoning and meeting contacts until June 2014, but without success. The company was liquidated in November 2015, and the Potters claimed ER on the resultant capital gain.
HMRC refused the claim on the basis that the three-year rule was broken as the trade ceased in 2008, and in HMRC’s view, the company was not a trading company from 2009 to 2015.
The FTT found that the company had been attempting to trade in the period from March 2009 to June 2014. It was immaterial that no profit was realised from those efforts; the activities did amount to trading activities until at least November 2012 (which took it inside the three-year period before liquidation).
The definition of a trading company for ER purposes is “company carrying on trading activities whose activities do not include to a substantial extent activities other than trading activities” (TCGA 1992, s 165A(3)).
Having established that the company was carrying on some trading activities the FTT looked for non-trading activities, but could find none. There was no activity associated with the investment income, as once the bonds were purchased the directors took no action in order to receive the investment income. Thus, all the activities of the company were trading activities, and it was a trading company.
Written by the Tax Advice Network