Distributions on company cessations
On cessation many directors find that monies have accumulated over the years which need to be distributed to shareholders before closure – preferably in the most tax efficient way. Dividends may have been made to the full extent possible from realised profits previously but there may still be further monies to distribute.
Whether the company is being ‘struck off’ or placed into liquidation will define the tax treatment of withdrawals.
‘Striking off’ is not a formal winding up procedure (although it is a statutory process). Any distribution of surplus assets (including the repayment of its share capital represented by those assets) is an income distribution (rather similar to a dividend). However, if the following conditions are present such distributions can be treated as capital subject to Capital Gains Tax (CGT) rather than income tax, if more tax efficient to do so:
- Providing that at the time of distribution, the company has collected, or intends to collect, its debts and has paid off or intends to pay off its creditors
- The amount withdrawn is less than £25,000 (whether as a single distribution or in separate amounts).
If a company has applied to be ‘struck off’ but within two years of making a distribution it still has not been or it has failed to collect all its debts or pay all its creditors, then the distribution is automatically treated as an income dividend.
Distributions above the £25,000 limit are taxed in full similar to a dividend at the director’s dividend rate, unless the company goes down the route of formal liquidation.
As capital the distribution could attract “Business Asset Disposal Relief’ (restricted if the ‘lifetime allowance’ of £1 million has been exceeded). In addition, the annual exempt amount will be available (£12,300 2021/22).
Once a liquidator has been appointed all distributions made during the winding up process are treated as capital. As such any company needing to make a distribution of more than £25,000 will be effectively forced down the formal liquidation route with the additional costs that this process incurs in the form of liquidators’ costs (usually approximately £2,000 – £3,000 for a small uncomplicated company). Where the distribution is of assets other than cash the valuation of those assets could assume greater significance in determining whether the £25,000 threshold is breached.
As with the ‘strike off’ process ‘Business Asset Disposal Relief’ may be available plus, if timed right, two distribution payments could attract two amounts of CGT allowances. A liquidator usually distributes 75% of the amount as soon as funds are received, retaining the remaining amount as a ‘buffer’ payable once HMRC clearance has been obtained and the period for any creditors to object has passed. The tax planning point is that should it be possible to make any payments on either side of the 5 April tax year end, then a claim for two years CGT allowances is possible.
Another tax planning possibility may be available if it is expected that shareholders will be higher rate taxpayers on withdrawals as dividends under ‘strike off’. In this case shareholders withdrawing less than the £25,000 limit could take advantage of placing the company into liquidation if the shareholders CGT tax rate would be lower than the marginal dividend tax rate (and/or ‘Business Asset Disposal Relief’ is available). However, this route should only be embarked upon if tax savings exceed the costs of liquidation.