The recent tribunal saw a pair of business owners who were selling their shares being hit with a huge tax liability due to a seemingly minor error.
The liability was totally unnecessary and avoidable, and amounted to hundreds of thousands of pounds for the businessmen. The handling of the share sale, and the resulting tribunal, has now exposed a basic error which others in similar situations should seek to avoid.
The two business owners were selling their shares in a business for £6.9m. This was on the understanding that the seller would immediately clear the firm’s debts of £1.1mn, using money provided by the buyer.
This brought the total amount paid for the business by the acquirer to £8m. However, only £6.9m was to be paid to the owner for the shares.
Unfortunately, the sale agreement document was poorly worded and, upon review, HMRC interpreted the sale price as £8m. Therefore, Capital Gains Tax was levied on the full £8m, rather than the £6.9m.
This was despite both the buyer and sellers being of the view that the sale price for the shares was £6.9m.
The legal documents indicated that the sellers should be paid £8m. The solicitors dealing with the transaction withheld £1.1m of their personal proceeds to settle the bank debt, and paid the remaining £6.9m to the selling shareholders.
Ultimately, the tribunal found that, regardless of the true intentions behind the transaction and that the sellers did not receive £8m in reality, the contract was clear that the sellers should have been entitled to the full £8m.
Therefore, despite the court acknowledging that it appeared ‘extremely unlikely’ that the selling shareholders would ever receive the extra £1.1mn, they remained taxable on the excess proceeds.
Effectively, the sellers had ‘voluntarily discharged the bank debt.’
While the issue was caused by something as simple as poor wording, the result meant that the sellers received a higher tax bill of either £308,000 (the prevailing tax rate in the year in question being 28 per cent) or around £110,000 presuming they were eligible for Entrepreneurs’ Relief.
The whole saga no doubt caused a great deal of stress and worry for the businessmen involved, as well as impacting them financially. It now serves as a stark warning to those selling businesses that appointing lawyers and accountants who are well-versed in mergers and acquisitions is vital to ensure similar costly mistakes are not made.
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