Solvent Liquidations: A tax-efficient way to close your company

What are Solvent Liquidations?

Although many people assume that business liquidation is only applicable to those that are officially insolvent, this is not always the case. Solvent liquidations – also known as Members’ Voluntary Liquidations (MVL) – is a process of closing a solvent company and is becoming an increasingly popular way of closing a company. In this current climate solvent liquidations are being considered by many business owners who wish to close their business in the next few years.

Solvent means that your company can settle its liabilities within 12 months and has a positive balance sheet value. MVLs are used as a way to close a company down when it has come to the end of its useful life, e.g., where shareholders want to extract profits from the company.

Tax-efficient way to close a company

MVLs are a tax efficient way of closing a solvent company as all the retained profits are treated a capital rather than income. This means instead of taking the profits as dividends you take this as capital and therefore pay Capital Gains Tax rather than the dividends tax.

For example, if you took £100,000 as dividends when closing the company, you would pay the following tax, based on the 2020/21 tax rates:

• £32,500 as a higher-rate taxpayer (income above £50,000)
• £38,100 as a super-rate taxpayer (income above £150,000)

However, if you took £100,000 as capital and are a higher-rate taxpayer (had an income above £50,000), you would pay the following Capital Gains Tax:

As you can see above this is a tax saving of £14,960 as a higher-rate taxpayer and £20,560 as a super-rate taxpayer.

You may also be eligible to claim the Business Asset Disposal Relief previously known as Entrepreneurs’ Relief. This is an incentive for entrepreneurs to start up new business by reducing the Capital Gains Tax due on the disposal of business assets of their old businesses. This relief allows you to pay a flat rate of 10% on all qualifying assets. To be eligible for this relief you must have held the business assets for at least 2 years before disposal.

Based on the example above, this is how the Business Asset Disposal Relief reduces your Capital Gains Tax due:

As you can see above this is a further tax saving of £8,770 by claiming the Business Asset Disposal Relief. However, please be aware that HMRC has cracked down on using this in MVLs. Under new rules, HMRC can reclassify capital payments as income payment if believed to be set up for a tax advantage. This means if you close your company and then carry on doing the same trade within 2 years of the closure of the original business, then HMRC can charge the dividends tax rates on payments taken rather than Capital Gains Tax.

Why are solvent liquidations becoming increasingly popular?

The reason for its recent popularity is due to fears that the Chancellor will announce in future Budgets, even as close as March 2021, that they will increase the Capital Gains Tax percentages, which would mean a more costly disposal.

There is also the possibility that Business Asset Disposal Relief (previously known as Entrepreneurs’ Relief) which reduced the capital gains tax payable to 10% could be scrapped altogether, since in the last budget, the limit on the value of lifetime claims was slashed from £10m to £1m.