In the recent tax First Tier Tribunal (FTT) Potter case, it was ruled that the company activities were the key when determining whether it was a trading company for Entrepreneurs’ Relief, even when the majority of income and assets were derived from investment bonds. Is it a potential game-changer for Entrepreneurs’ Relief or is it likely to be overruled on appeal?

The company conditions which have to be met to qualify for valuable Entrepreneurs’ Relief – reducing Capital Gains Tax payable on qualifying disposals to 10% – when a company is liquidated are:

  • the company ceased trading less than 3 years before the liquidation date
  • for the two years before the cessation, the company was a trading company – although this used to be one year and this applies in the Potter case
  • “Trading activities” include activities that prepare a company to carry on its trade or acquire or start to carry on a trade

In the Potter case it was the definition of a trading company that was under the spotlight. A trading company is one whose activities are not to a substantial extent ‘non-trading’ and usually involves looking at income, assets and management time of the company ‘in the round.’ Although the company concerned had not raised an invoice for 5 years before the trade ceased in June 2014, the FTT held that its activities were directed at reviving the trade, meeting the trading condition requirement. The company’s non-trading activities during this time which included investment in bonds, required no expenditure or time spent by the company’s officers or employees, so were not regarded by the tribunal as “substantial” even though the majority of company income and assets were derived from the bonds. Management time, expenses and activities were seen to be the key.

A little more detail

In the FTT case, Potter & Anor [2019] TC 07348,  Mr and Mrs Potter were joint shareholders in a company (Gatebright) that acted as a credit broker for clients wishing to deal on the London Metal Exchange and requiring bank finance. Gatebright was effectively licensed and regulated under the umbrella of the relevant bankʼs licence. Once a deal was concluded, Gatebright  invoiced the bank for its share of the commission from the client. By the time of the financial crisis in 2008–09, Gatebright had built up reserves of over £1m. It invested £800k in acquiring six year bonds to safeguard those reserves. The remaining funds were retained as working capital. However, as a result of the crash, banks ceased to provide credit and Gatebrightʼs last invoice was issued in March 2009. In that year Mr Potter was seriously ill and by the time he returned to work, his agreement with the bank had lapsed and he no longer had a regulatory licence to trade. Mr Potter continued to actively pursue further deals, without success, and following surgery in June 2014 and June 2015 the business was liquidated in November 2015.

The FTT had to consider whether Gatebright was an active trading company within three years of the cessation. It concluded that it was, in part because no decision had been taken to close down the business and that it was preparing to carry on its old trade once the economic environment permitted and there was still a realistic possibility that new business could be found.

The FTT also considered the question of whether the purchase of the investment bonds meant that non-trading activities became substantial. It concluded that despite substantial investment in the bonds, the company’s directors  incurred no costs and spent no time on them after there purchase. The company’s activities were entirely directed at reviving the companyʼs trade once financial conditions improved. The FTT therefore found that the companyʼs activities did not, to a substantial extent, include activities other than trading activities.

The FTT upheld the appeal, concluding that entrepreneursʼ relief was available. No doubt HMRC will appeal but it gives us a different view of what is considered a “trading company” for Entrepreneurs’ Relief.

If you are planning a disposal or liquidation, the sooner you speak with your professional advisors the better. Advanced planning is crucial if you hope to qualify for Entrepreneurs’ Relief. Call Cassandra Graham on 01332 365855 or email if you would like to speak with us, without obligation.

Source: Potter & Anor [2019] TC 07348

It is important to point out that this information is general in nature and you should take no action based upon it without consulting ourselves or your current professional advisor.