Most businesses expand via recommendation; however, there may come a time when a more effective method of expansion is needed such as acquiring\buying another business. When one company buys another, the arrangement is usually structured either via a share purchase or an asset purchase. Each method has its advantages and each method its own specific tax issues.
Share purchase
In a share purchase, the buyer acquires the shares of the target company and takes ownership of the entire business. This includes all assets, liabilities, tax history and any existing risks. While this method may appear simple from an operational standpoint, it may expose the buyer to unforeseen liabilities. Even if the buyer obtains warranties and indemnities, they are only worth anything if the seller has the money to back them up. Stamp duty will also be payable at 0.5% of the purchase price.
Another important issue is the use of tax losses. In some cases, the company being acquired may have accumulated losses that could potentially be valuable as they can be offset against future profits, reducing tax liabilities. However, tax rules can restrict the use of such losses and care is needed to ensure that there is no ‘change in the nature or conduct’ of the business.
Change of ownership while buying another business
A ‘change of ownership’ occurs where:
- one person acquires more than 50% of the ordinary shares in the company; or
- two or more persons each acquire a holding of at least 5% of the ordinary shares and these holdings combined total more than 50% of the company’s ordinary share capital; or
- two or more persons acquire a further holding of ordinary shares which takes each of their holdings to at least 5%, and those holdings combined exceed 50% of the company’s ordinary share capital.
A ‘change in the nature or conduct’ of the trade concerns a major change in:
- the product or service supplied by the company;
- the customer base to which the product/service is being supplied; or
- the market(s) in which the trade operates.
For this loss restriction to apply, both the major change in the nature/conduct and the change of ownership must take place within a period of five years, starting not more than three years prior to the date of the change of ownership.
In addition, when another company is purchased, it becomes ‘associated’ with the existing company. This would lower the profit thresholds for the 19% small profits rate and the 25% main rate, effectively increasing the overall tax burden.
Asset purchase
Under an asset purchase, the buying company purchases specific assets (machinery, stock, customer lists, intellectual property, contracts, goodwill, etc.) directly from the target company. The benefit is that the buyer selects which assets and liabilities to acquire, offering greater control and flexibility compared with a share purchase which is effectively ‘all or nothing’. The flexibility comes with being able to allocate part of the purchase price to assets that qualify for capital allowances’ (CA) and use that amount as the new starting value for potentially claiming future capital allowances.
Note that should the seller have already claimed CA on the assets, the value may be restricted as HMRC does not permit both parties to claim full relief on the same value. However, assets revalued at a higher price will enable CA to be claimed by the buyer on the balance.
A further benefit of an asset purchase is that the buying company does not inherit the selling company’s history, thereby reducing the risk of being liable for past debts.
Other tax considerations
Should assets purchased include commercial property, SDLT may be payable by the buyer at rates up to 5% of the property’s value. There may also be the potential for a VAT charge should the transfer not be deemed as being of a going concern, thereby increasing the purchase cost.
Practical point
While Business Asset Disposal Relief (BADR) will primarily be of interest to the seller, it may impact negotiations and method of acquisition. Sellers may want a share sale to qualify for BADR, whereas the buyer may prefer an asset sale for ‘clean’ tax reasons, to minimise risk and avoid inheriting historical liabilities.
