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Closing your company and extracting funds in a tax efficient manner

Firstly, the business owner might consider a large bonus or dividend. Extracting the money in the form of a salary or dividend will usually be expensive from a tax perspective, and 40% or more could be lost in tax. There are usually better alternatives.

It might be possible to pay some into the director's pension. This can also have the benefit of reducing the final period's corporation tax bill, and with the recently announced changes to pension legislation, this could translate into a fairly substantial amount.

Quite often, we see the business owner deciding to draw down the money in the company over a number of years, which can be quite attractive, particularly for basic-rate taxpayers where the income can be accessed at 8.75% tax. Even more so if both the business owner and their spouse are basic-rate taxpayers and own shares in the business. In this scenario, they can potentially both draw dividends at 8.75%. But that does, of course, mean that accounts and tax returns need to be prepared each year for the company, which will involve compliance costs.

A fourth alternative is to put the company into a members' voluntary liquidation and take the funds as a capital distribution subject to capital gains tax. This can be really attractive from a tax perspective.

The current maximum rate of capital gains tax, as long as it is not residential property, is just 20%, and it may be possible to get that to just 10% where Business Asset Disposal Relief (BADR) is in point.

What's BADR? - In simple terms, if you are an officer or employee of a trading company and have held 5% or more of the shares in the company for at least two years, giving you at least 5% of the voting rights, 5% of the profits available for distribution on winding up, and 5% of proceeds in the event of a company sale, you may be eligible for the 10% tax rate on those shares, subject to a lifetime limit per individual of £1M.

So that's potentially £2M at 10% tax for a company owned by a couple, where both meet the eligibility criteria.

If the company's assets are under £25,000, then the process of liquidation is very simple, and the business owner does not need to involve a liquidator. But anything over £25,000 of proceeds, and it will be necessary to appoint a liquidator.
So why don't business owners liquidate their companies more frequently and pay tax at 10% rather than 40%+? That's a very good question, and at one point, it was quite a common occurrence. The owner would extract the funds at 10% and potentially start another company to do the same over and over again.

The taxman saw that as unacceptable, and there are now Targeted Anti-Avoidance Rules that seek to prevent any such abuse. That said, when liquidating a company is done for legitimate business reasons, liquidating companies more than once continues to be an option.

There is no one-size-fits-all answer, and if you think that you might be winding up your business operations in the next few years, then it's important that you speak to your accountant as soon as possible so that you can look at the options and select the most appropriate for you.

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