If your company makes a profit it can pay this to its shareholders as and when it wants. These are known as ‘distributions’ in company and tax law, the most common form of distribution is dividends. Dividends is normally taxed as income for individuals, but an exception to this rule is where distributions are made in the course of winding up a company, these are taxed as capital and so chargeable to capital gains tax (CGT), which for most individuals this will be less costly than income tax.
In order for distributions to qualify as capital in a wind up:
- Appoint a liquidator who will set the wheels in motion, and all distributions from this point on are taxable as capital.
- Appoint an accountant, if the total to be distributed to shareholders is less than £25,000, capital gains tax (and not income tax) will apply.
Let’s see this in a couple of examples:
- Daniel and Todd are equal shareholders of ABC limited and are higher rate taxpayers. ABC has distribution profits of £100,000. They have decided to wind up ABC and have appointed liquidators. All distributions from this point form are taxable as capital and not income.
If the distribution were taxed as income Daniel and Todd would pay tax at 32.5% of the amount they receive. On a distribution of £47,500 each (after paying out liquidators fee of £5,000) , they would each pay £15,437.50 (£47,500 x 32.5%), as a capital distribution they can deduct CGT annual exemption (£11,300 each) and pay CGT on the balance at just 20%, giving them a CGT bill of £7,240, saving £8,197.50.
- Albert is a higher rate tax payer and the only shareholder in XYZ Limited. XYZ has distribution profits of £35,000. He has decided to wind up XYZ.
If the distribution were taxed as income Albert would pay tax at 32.5% of the amount he receives. On a distribution of £32,500 each (after paying out liquidators fee of £2,500) , he would pay £10,562.50 (£32,500 x 32.5%), as a capital distribution they can deduct CGT annual exemption (£11,300 each) and pay CGT on the balance at just 20%, giving them a CGT bill of £4,240, saving £6,322.50. Leaving Albert with £28,260.
If Albert decides not to appoint a liquidator and speaks to his accountant, he can look at taking dividends of say £10,000 and then winding up XYZ Limited and the remaining distributions treated as capital, paying a total tax of £5,340 (combination of dividends tax and CGT), leaving Albert with £29,010 (after tax and accountants fee).
NB: The information provided in this blog and all our blogs is of a general nature. It is not a substitute for specific advice in your own circumstances. This information can only provide an overview of the regulations in force at the date of publication, and no action should be taken without consulting detailed legislation or seeking professional advice.
Fees and tax are approximate.