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Richard Verge’s blog of 25 January asked the question should I incorporate my buy-to-let business?

It was aimed at UK persons who were looking to mitigate the impact of a future restriction of the tax relief for interest payments on their buy-to-let mortgages and the impact of the 3% SDLT increase for second properties.

Capital Gains Tax

Incorporation comes at the cost of an SDLT charge on transfer of the property into a company and the Capital Gains Tax payable on the transfer. As the company is connected with the seller the CGT is payable on the full market value of the property irrespective of the price recorded in the documentation.

Residential property

When CGT rates were reduced to 10% or 20% on 6 April 2016 the reduction did not apply to gains on disposal of residential properties. The impact is that individuals who incorporate will pay Capital Gains Tax at rates of either 18% or 28% on the gain they make on that property. This “dry charge” is a disincentive for incorporation. However this CGT rate could be reduced to 10% or 20% by investment in Enterprise Investment Scheme (EIS) shares.

Enterprise Investment Scheme

Capital gains on sale of property can be deferred if the vendor invests in EIS qualifying shares. The reinvested gain would be deferred for the period that the shares are held. When the EIS shares are sold the deferred gain becomes taxable at the rate of CGT applying at the time of the share sale. The CGT which is payable is no longer classified as a disposal of residential property but a deferred gain and therefore charged at 10%/20%. Due to a technicality this opportunity only applies to investment in EIS qualifying shares and does not apply to Seed Enterprise Investment Scheme qualifying shares.

As well as CGT reliefs, a qualifying investment in EIS shares which are held for a minimum period of (generally) three years results in a 30% income tax relief for the subscriber.

In summary, one of the concerns about incorporating a buy-to-let business is the Capital Gains Tax which is payable. With the cash resources and the appropriate appetite for risk this concern can be partially alleviated by use of EIS investments.

I have noticed a marked increase in questions about the Seed EIS scheme. Perhaps the forthcoming 31 January tax payment date is leading people to consider tax efficiency more closely!

The scheme is for companies which are seeking early stage funding in the first two years of their trade. There is a 50% income tax relief available for qualifying investments. Shares held for three years can be sold without capital gains tax. Capital gains made in 2012/13 and reinvested in this tax year into Seed EIS companies can be eliminated entirely. Other gains are deferred until the year that the Seed EIS company’s shares are sold.

The tax breaks are generous. This is a reflection of the high risk nature of such businesses. There are many conditions about the size of the business which also need to be satisfied in order for Seed EIS to be relevant. There are also practical considerations that need to be considered. The practical considerations include:-

A Seed EIS qualifying company cannot be under the control of another company. This sometimes leads to difficulties if a company is bought off the shelf from a company incorporator. HMRC have confirmed that companies set up by incorporating agents ( in situations where the incorporator is itself a company) will lead to loss of Seed EIS. This is because the incorporating agent controls the trader and therefore there is a time when the trader is under the control of another company.

Similarly there are certain steps which a subscriber should follow if they are also to be seeking Seed EIS relief. This is to prevent them accidentally tripping one of the conditions surrounding share ownership levels.

The conclusion is that Seed EIS, for qualifying activities, is a valuable and generous relief. However, it needs to be treated with care and the detail of the legislation understood and followed.