Richard Coombs, Tax Partner at Bates Weston looks at HMRCs plans for the taxation of Employee Ownership Trusts and Employee Benefit Trusts.
HMRC have announced that they are inviting views on proposals to reform the tax treatment of Employee Ownership Trusts (EOTs) and Employee Benefit Trusts (EBTs). The reason for the review is “to ensure that the tax regimes for EBTs and EOTs remain focused on the targeted objectives of rewarding employees and encouraging employee ownership, whilst preventing tax advantages being obtained through use of these trusts outside of these intended purposes.”
Whilst EOTs feel like a relatively recent structure, they were actually introduced in the Finance Act 2014 and so, given it is now nearly 10 years since they came into being, HMRC feel it is time to review their efficacy. We should be reassured that HMRC are not looking to scrap them or significantly reduce their tax benefits. Indeed, HMRC believes there are over 1,000 companies now enjoying the benefits of employee ownership under this structure and that EOTs deliver on HMRCs objectives. However, there a small number of concerns or suggested improvements that they have raised which they want views on. These can be summarised as follows:
- The make-up of the trustees of the EOT. Currently there are no restrictions on who they can be and it is often the previous shareholder directors who make up the majority of the trustees. This is understandable where these shareholders are still owed money from the buy-out – they will want to minimise the risk of the company failing — and HMRC acknowledge that having relevant company expertise amongst the trustees is important. However, HMRC’s concern is that culturally the company may feel largely unchanged for the employees and so they want to consult on a proposal to require that the majority of the trustees cannot be made up of the former shareholders and also potentially go further and require that the trustees board must include people from certain groups, such as employees or independent persons.
- The residence of the trustees. There is currently no requirement that the trustees be UK resident, which can leave the door open to tax avoidance as non-residents are outside the scope of UK capital gains tax if and when the shares are subsequently sold. The proposal is therefore to require that the trustees must be UK resident.
- Removal of the need for non-statutory clearances. Currently, two non-statutory clearances are routinely applied for to ensure that certain anti-avoidance legislation will not apply. HMRC have proposed that the anti-avoidance legislation will generally not apply to EOTs and that they will no longer accept non-statutory clearances as, in their view, it is unnecessary. This will certainly streamline the implementation process although it will be important to ensure that taxpayers still get the certainty of tax treatment that they require.
- Finally, a relaxation of the rule that requires any tax-free bonus to be paid out by the trustees to include directors. In certain group situations it has been noted that the specific EOT requirements about the number of participating directors can prevent any tax-free bonuses being paid to anyone, which goes against the intention of the legislation. The proposal is therefore to simplify this rule (with protection to avoid abuse) to ensure that all employees can receive tax free bonuses.
There are also additional proposals regarding EBTs, aimed mainly at inheritance tax avoidance schemes whereby shares in family companies are transferred into EBTs, purportedly to benefit all of the employees, but in reality, rarely benefit anyone but the family of the controlling shareholders. The proposals are to prevent any such people from benefitting from the EBT, or if they do benefit, they do so as part of a wider employee benefit.
Overall, the EOT proposals appear broadly benign and it is reassuring to see that HMRC are still supporting the overall concept of employee ownership through the use of EOTs. As for EBTs, they have been synonymous with tax avoidance for several decades now and HMRC have been successful in challenging the income tax and NIC aspects of their use, so it is perhaps unsurprising to see them now trying to crack down on the one remaining advantage, being IHT.
If you are considering employee ownership as an alternative to trade sale or management buy out for your company, please do get in touch with Richard Coombs or Craig Simpson, who will be happy to outline the principles of an Employee Ownership Trust.
This guidance is generic in nature and does not constitute advice. You should take no action based upon it without consulting ourselves or your own professional advisor.