IT Contractor Tax Limited Company Accounts Accounting

HMRC has announced that changes are to be made to the tax treatment of shareholder distributions when a limited company is wound up.

What is the purpose of (ESC) C16?

Currently, when a company is wound up, a final distribution of company funds can be made after creditors have been paid, and shareholders can benefit from the low rates of Capital Gains Tax afforded by Entrepreneurs Relief (at a rate of 10% if you have held the shares for 12 months or more).

This method of extracting capital tax efficiently has been made possible via the existence of Extra-Statutory Concession (ESC) C16.

In an effort to clamp down on perceived 'tax avoidance', HMRC had proposed to restrict the amount which can be distributed in this way via (ESC) C16 to a mere £4,000. The new limit - just announced - is to be £25,000, and is due to take effect from 1st March 2012.

The ability to wind up a company via this concession, and distribute remaining funds after creditors have been paid, has long been seen as a far simpler route that appointing a liquidator to wind up a company.

Although shareholders will typically pay less tax via the ESC C16 route, it is acknowledged that creditors (including HMRC) are protected, where they may not be paid in full if a company were liquidated (due to the costs involved).

Is the £25,000 ceiling too low?

However, many organisations are unhappy with the imposition of a £25,000 ceiling, as it is likely to affect a large number of businesses.

According to HMRC, "In 2010 about 325,000 companies were dissolved informally and struck off without going into liquidation. It is possible that some companies making large distributions on the cessation of business may now opt to be formally wound up, in order to protect the tax position of their shareholders."

Andrew Gotch, representing the CIOT, said:

"HMRC's announcement of a higher ceiling is a step in the right direction. £4,000 would have been a ridiculously low level which would have rendered the legislated concession barely worth having. £25,000 is an improvement, but we would have liked to have seen a higher limit calculated per shareholder, or indeed no limit at all.

"The Government's argument is that a low limit is needed for anti-avoidance purposes, but we have been offered no evidence that this concession has been abused. I hope the Government will consider a further increase to, or removal of, the ceiling during this proposal’s legislative passage so that the new law genuinely reflects the original concession."

Further Information

You can read the HMRC announcement here, and details on the current (ESC) C16 rules here.

For obvious reasons, you should consult your accountant if you have any plans to cease using your limited company - especially in advance of 1st March 2012.