- a sole trader;
- a conventional partnership (where the individual works with one or more partners in the business);
- a limited liability partnership - LLP - (this provides the individual and their partners with the protection of limited liability, just as with a company); or
- a limited company.
Someone running their own business MIGHT be running a limited company, but often they are not. There are many practical, administrative and tax differences between businesses that are run as limited companies and those that are not.
Many people mistakenly run their business through a limited company when this is not really the most suitable or convenient option. Others only 'incorporated' their business into a limited company because there seemed to be some tax savings. These will vary each year as the relevant tax rates change.
The tax system recognises that someone might want to 'incorporate' their business. As a result, as long as the right steps are taken in the right order, there need be no tax charges when the business moves into a limited company. The position is quite different however when a business owner wants to 'disincorporate'. Essentially this means they want to continue their business without continuing with the limited company. The absence of specific tax rules, reliefs and allowances means there are a number of tax traps that often result in unwelcome tax charges.
The Office of Tax Simplification recently issued a discussion paper to clarify the level of interest in disincorporation reliefs. The paper identifies a number of situations where this might be of benefit:
- The company with little or no value in capital assets, probably a one person operation, which might find life simpler if it was operated as a sole trader.
- A slightly larger business, perhaps run by friends or a husband and wife or wider family, which has goodwill and so may benefit from a narrow form of relief, ensuring a tax neutral transfer across to the disincorporated trade, probably continued as a partnership.
- A larger company with capital assets as well as intangible assets may need a wider form of relief, to enable a claim to hold-over the chargeable gains on transfer of the assets to the disincorporated trade, which may be carried on as an LLP or as an unincorporated business or partnership.
There are also capital gains tax issues for the shareholders in all cases, though only in the last situation are these likely to be significant.
The discussion paper invites responses by 7 October 2011. The next step is as yet unclear. Suffice it to say that there is no immediate prospect of a 'disincorporation' relief being introduced.
In the meantime let me just repeat the warning I give whenever I speak on this subject. Ignoring the potential tax charges when a business disincorporates is storing up trouble for the future. Many people find a way around the administrative and legal issues. It is unwise to proceed without also being very clear as to the tax rules which are commonly misunderstood.