Offshore tax article - Which is the best way for Expats to take cash out of their UK companies?

NOTE:THIS ARTICLE WAS PREPARED PRIOR TO THE 2007 PBR CHANGES REGARDING TAPER RELIEF. FOR DETAILS ON THE IMPACT OF THE CHANGES VISIT THE MEMBERS AREA.

It's a pretty common scenario. Someone runs their own business through a UK limited company decides to emigrate, and wants to know how best to extract the cash from the company. In many cases this would apply to professionals or contractors who have ran the company as a tax efficient vehicle for providing their services. In addition the person emigrating will often be a non UK domiciliary who has built up a successful business and wants to go back to their 'home' country.

Of key importance to many such individuals will be whether they extract cash whilst still UK resident, or whether they should wait until after they leave the UK.

We'll look at this shortly, but it's worthwhile first looking at the two main ways that you can extract cash from the company. Firstly you could wind up the company and extract any cash as a capital distribution. Alternatively you could simply extract the cash as a dividend. The tax implications of both of these courses of action would depend crucially on your residence status.

I'll look at both of these options.

1) Liquidate the company and pay a capital distribution.

Liquidation itself can be a lengthy and complex procedure however a Revenue extra statutory concession ('ESC') ESC C16 can extend this treatment. This states that where a distribution is paid by a company prior to a striking off under the Companies Act, it can be treated as a capital distribution (as akin to the company being formally wound up). This is a much simpler and cheaper route than opting for a formal liquidation of the company and is probably something that most individuals that would be effected by this article would consider.

UK resident

If you are UK resident when you wind up the company the advantage of this is that capital gains tax ('CGT') applies as opposed to income tax. On the distribution of the cash to the shareholders, this would result in a gain for the shareholders, based on their ownership of the shares.

The key relief here will be taper relief.

Business asset taper relief may be available to the shareholders,and if applicable could eliminate up to 75% of any gain arising, (which will arise on the amount received, less the amount paid/subscribed for the shares).

In order for the shares to qualify for full business asset relief, the company itself would need to be an unquoted trading company throughout the entire period of ownership and that period must last for at least two years. If the company has been trading for less than two years, it's well worth considering whether you could keep the trade going to maximise taper relief.

If this is not the case and the company is just a cash shell, you would only have one years qualifying status for business asset taper relief, with the remaining period qualifying for non business asset status. Any period of non business asset status would then significantly lower the rate of relief.

Example

If you could establish a company as trading for the full two years of ownership before winding it up, 75% of the gain on the shares would be eliminated. Assuming you were a higher rate taxpayer this would equate to a CGT rate of 10%. Note if the gain was within your basic rate tax band the effective CGT would be only 5%. Depending on the gain arising it may in any case be that the gain would be fully exempt from UK CGT due to the annual CGT exemption(s). You would be entitled to an annual exemption (currently £9,200) and if you are married and hold the shares jointly this effectively doubles this exemption. Assuming the annual exemptions are used on other gains in the tax year you could each realise a gain of £36,800 free of CGT (ie a total gain on the shares of just over £73,600 for a couple free of UK CGT).

This though assumes full business asset taper relief. If you only qualified for one years business asset status and one years non business asset, your rate of relief would be calculated as:

Business asset relief = 1/2 * 50% = 25%
Non Business asset relief = 1/2*0% = 0%
Total rate of taper relief 25%

The effective rate of CGT for higher rate taxpayers would then be 30%, not 10%.

A further point to note is that the UK tax authorities take a narrow definition of trading and would not class a company as trading if it had any substantial non trading assets. Substantial in this context is usually taken to be in excess of 20% of net assets/income.

In the case of a company with a relatively high cash balance, the Revenue could regard this as substantial. The key issue would be to identify why the cash balance has arose and whether it is being accumulated for a business purposes. It may also be necessary to consider other similar companies in the sector to ascertain their cash levels.

Given the large impact business asset taper relief will have it is essential to study the companies position in detail. If doubt still exists the Revenue will accept clearance applications on this issue and provide an opinion as to whether the company would qualify as an unquoted trading company.

Therefore winding up whilst UK resident could entitle you to a lower rate of CGT on the cash receipt, and clearly there would be no overseas tax implications. As above whether the company will qualify for full business asset relief (ie length of period company was trading for and existence of/reason for large cash balances) as well as the size of the gain and availability of the annual exemption would need to be considered.

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Non UK resident

If you were to wait until you left the UK before winding up the company, you could receive the cash receipts free of UK taxes.

When you leave the UK permanently you should be classed as non UK resident/non UK ordinarily resident from the date of your departure. As such you would be outside the scope of UK CGT on your UK and overseas assets provided (in most cases) your absence overseas lasted for a period of at least five complete tax years. The only time this five year rule would now not apply would be if you'd only been resident in the UK for a very short period.

The main issue with winding up as a non resident would be the overseas tax implications. You would need to take overseas tax advice to ascertain how your overseas country of residence would tax the receipt from the company (ie as capital/income and at what tax rate).

In terms of avoiding tax completely on the receipt, you would have three options:

• Obtain residence in a country that did not levy tax on the receipts. There are plenty to choose from including the traditional tax haven countries such as the Bahamas and Panama, up to countries with specific exemptions such as the Australian temporary residence permit, Malta etc.

• Become a fiscal nomad and ensure that you were a tax resident of no country

• In a similar vein to the above take an extended holiday to ensure that the winding up occurred during a period when you were not resident in any country.

Dividend extraction

The alternative would be to extract the cash as a dividend after you leave the UK. As a non UK resident you would be subject to UK income tax to the extent that any tax is deducted at source. As the tax credit is only a notional tax credit, and there is no withholding tax on dividends from the UK, you could receive the dividends free of UK income tax.

Again, you would need to consider the overseas tax implications, and whether this treatment would be advantageous.

Timing

It is essential that the company is wound up in a tax year after you leave the UK. Therefore you would need to leave the UK prior to 5 April 2007 if a winding up in tax year 2007/2008 was planned. This is because there is generally no split year basis for CGT purposes and the Revenue could class you as UK resident for CGT purposes for the remainder of tax year 2007/2008 if you continued to reside here during tax year 2007/2008.

If you were looking at taking cash as a dividend, although it is possible to take the cash during part of the tax year when you were non UK resident, as a matter of practice it would be advisable to extract cash during the tax year following your departure from the UK.

Conclusion

Of utmost concern should be the overseas tax implications, however as a first step I would always suggest that you assess the extent of any taper relief that will be due bearing in mind the activities of the company and the assets of the company, including the cash balances and the purpose for which the assets are held.

In particular if you can obtain an exemption in UK tax for a gain arising on the winding up (due to taper relief and the annual exemptions), it may be easier and cheaper to simply arrange for a winding up whilst UK resident.

You could also consider extracting the cash over the course of two tax years prior to leaving the UK. If you were married and full business asset taper relief was due this could exempt a gain of over £140,000.