Keith Tully explains why MVLs have fallen out of favour as a result of the Finance Bill 2016. 

Changes to the way in which shareholder distributions are treated on the closure of a solvent company caused an increased demand for members’ voluntary liquidations (MVLs) during the first quarter of this year.

Previously, an MVL was the preferred option for many directors wishing to close down their solvent company in a tax-efficient manner. Further incentive in the form of ‘entrepreneurs’ relief’ also enabled eligible shareholders to benefit from a 10% rate of tax.

Significant demand for MVLs

These changes, introduced by the Finance Bill 2016, caused a significant rise in demand for MVLs. Numbers had already seen an increase after 2012, when the government capped the amount available for capital tax treatment at £25,000 under a voluntary strike-off procedure, which is the alternative route for closing down a solvent business.

This increased popularity of solvent liquidations is predicted to diminish now that the new rules are in place, but some company directors have already seen huge increases in their tax liability on closure.

How does the new legislation affect distributions?

Since the changes came into force in April 2016, it can be more expensive for individual shareholders to extract surplus funds. In some cases, distributions are now treated as income rather than capital for tax purposes, and at a significantly higher rate.

Owners of multiple businesses may be badly affected, with tax bills tripling for some entrepreneurs. HMRC is particularly targeting people who deliberately close down a company and then set up a similar business within two years, after gaining a significant tax advantage using the capital treatment plus entrepreneurs’ relief.

Property developers are at particular risk due to the nature of their operations. Often a single development project is undertaken and a limited company opened alongside it, which is then closed down once the project is complete.

Other groups could also see huge increases in their tax liability, with rates potentially rising from 10% to more than 38% if a similar business is set up within two years.

Why have the rules changed?

HMRC has expressed concerns about two particular scenarios, which they felt compromised the fairness of the tax system, and potentially placed others at a disadvantage:

• ‘Phoenixism’: where a company is liquidated, and the assets bought by existing directors who go on to run a new company in a similar format.
• ‘Moneyboxing’: when profits are held within a company for the sole purpose of future distribution to shareholders as capital, rather than using the funds for commercial purposes.

HMRC has also stated their wish to create greater incentive for entrepreneurs to arrange returns as capital rather than income. This would attract tax at the lower capital gains tax rates, and not the new dividend tax rates.

They will be specifically looking at the purpose for closing down a company, with the intention of identifying the two scenarios mentioned earlier. Additional revenue of £35 million is expected by the government during 2017 and 2018 as a result of the changes in legislation.

About the author

Keith Tully is an insolvency expert and partner at Real Business Rescue, part of the Begbies Traynor Group. Keith has over 25 years’ experience advising company directors in times of financial uncertainty.