This is the first of three articles in which we will look at the potential tax consequences of a VIMBO* transaction. Whilst the mechanics of implementing such a transaction will necessarily be touched upon, the intention is more to highlight the tax questions which are likely to be encountered. The implications for the acquiring company and new management team shall be looked at in future newsletters but this first article focuses on the vendor.

Potential Tax Saving in Excess of 50% for Owner/Managers!

The vendor will typically be both the owner and main decision-maker within the business. As such, he will have been remunerated by salary and bonus, with excess profits potentially distributed by dividend – all of which will be subject to varying rates of income tax and National Insurance Contributions. Depending on circumstances the total tax take can be as high as 63.8%. Therefore, the most significant point to highlight is that a VIMBO results in the disposal of shares as a capital transaction and, as such, will be charged to capital gains tax. As the disposal of shares in a trading business is likely to qualify for Entrepreneurs’ Relief (ER) and the individual lifetime limit for ER has recently been increased to £10m, it is realistic to estimate the tax rate to be 10%.

This is a tax saving of more than 50% compared to continuing to extract income from the business.

HMRC and Anti-avoidance

In certain circumstances HM Revenue & Customs (HMRC) may seek to apply anti-avoidance legislation allowing them to counteract tax advantages obtained in relation to certain 'Transactions in Securities'. This could, in theory, allow them to recharacterise part of the VIMBO proceeds as revenue in nature and therefore subject to income tax.

Two things are therefore essential:

• Clearance procedures exist to confirm that HMRC will not seek to apply this legislation - we strongly advise that clearance is sought to prevent any unforeseen tax liabilities.
• Ensure that the transaction is designed to remain within HMRC’s internal rules on what is termed as “avoidance”. This takes experience and knowledge of HMRCs current thinking and can be art as much as science.

Loan Note Issues

A 10% rate of tax is attractive, but this can now only be obtained where the full proceeds are received or taxed up front (see the previous article “New Tax Implications for QCB’s”). However, in today’s financial environment loan notes are a common element in share transactions. It is therefore important to be aware of the tax impact of taking loan notes as part of proceeds – these will only be chargeable to tax when they are redeemed and will not qualify for ER. Capital Gains Tax will most likely be payable at 28%.

Ongoing Taxation

One of the great advantages of a VIMBO is that there is no need for the vendor to immediately step away from the business; rather, he will often remain in an ambassadorial role to assist the new management and ownership. This new role would be remunerable and would be subject to income tax and NIC.

Inheritance Tax

The final tax that can be overlooked when an owner-manager considers a disposal is Inheritance Tax (IHT). Generally, the value of shares in a trading company will have qualified for relief from IHT. Consequently, the realisation of cash on disposal will result in an IHT-attracting asset, which the vendor should be aware of and plan for. Of course, the vendor may have his own ideas on what to do with his newly-acquired liquid assets!

If you think a VIMBO may be of interest to you or your clients, please call us on 0141 243 4980 and we will be happy to discuss this in further detail. Alternatively we will be running seminars on the subject later in the summer and you can register your interest on the same number.

* A VIMBO is a structured method of passing on ownership of a business to family or a lower tier of management. Fundamentally it involves selling a controlling interest of shares, but there is no requirement for the existing owner to end involvement in the business or to sell 100% of their shareholding. In the right circumstances it gives significant tax advantages (up to 50% of gross earnings!) in comparison to continuing to extract income through salaries and dividends.