If you are a business owner, at some point, you must have thought about closing up your business or going through Insolvency. Mostly, Insolvency led to the liquidation of the company. Also, it is noticed that business insolvencies are expected to jump 15% a year in 2022. An increased rate of 118% in CVLs (creditorsโ voluntary liquidation) was seen in April 2021. To know more about how to close a limited company without paying taxes, one must understand what is meant by insolvency.
What is Meant by Insolvency?
If a company cannot pay its bills as they fall due, or the total value of its liabilities exceeds its assets, the business may be cash-flow insolvent or balance sheet insolvent and must stop trading.
However, Insolvency doesnโt necessarily mean liquidation for a company. Still, directors must minimise their creditorsโ losses by voluntarily liquidating the company if it cannot be avoided.ย
In liquidation, the company is liable to pay certain taxes, without which liquidation cannot be fulfilled.ย
Although you cannot altogether avoid paying taxes without delving into the wrong side of things, you can, however, lower your tax liabilities to a certain extent.ย
It is always advisable to look at available options when making a significant decision, such as closing down a business. Although it is always recommended
to vouch for professional help to close down your business in the most optimal way, you can close down shop while minimising your tax liabilities with extra care and attention.
Before we move on towards ways to efficiently close down your business tax, let us look at what kind of taxes you would be liable to pay when closing your business.
Understanding how to avoid company insolvency and managing corporation tax effectively are essential when facing financial difficulties or considering closing your business.
Tax on Closing a Company
First, we need to familiarise ourselves with all the tax liabilities you could be liable for when closing a limited company.
Corporation Tax
When you decide on closing your company and report to the companyโs house of your decision, your existing corporate tax accounting period comes to an endโa new period starts, which goes on for 12 months or the end of the winding-up process. During this period, you would have to file company tax returns regularly and pay corporate tax on profits that may arise from,
- Trade income, for example, income from investments.
- The revenue gained from the sale of assets to pay creditors.
During the winding-up process, the rate of taxes will remain the same as before deciding to wind up.
Understanding the complexities of UK corporation tax, how to reduce your tax bill, and the full scope of corporation tax for businesses.
Capital Gains Tax
Capital Gain Tax is applied on the profit earned from the sale of assets that increased value from the time you got a hold of them. The tax is applied on the gain you have made from the sale and not on the total amount received. When you decide to wind up, you would be liable to pay Capital Gains Tax in the case of a Members Voluntary Liquidation and the possibility of an Informal Strike-off if the gains are ยฃ25,000 or less.
The Capital Gains Tax Charged rate is 10% for the basic rate taxpayer and 20% for the higher rate taxpayer.
Income Tax
As the name suggests, income tax is the tax you pay on your income. However, not all incomes are entirely taxable. However, the income earned from your business as a salary is something you would have to pay taxes on, and the companyโs dividend is paid to the shareholders.ย
With a basic rate of 20% on income lesser than ยฃ50,270, a higher tax rate of 40% on income between ยฃ50,271 to ยฃ150,000, and an additional rate of 45% on income higher than ยฃ150,000.
When closing a company, if you take out any retained earnings in the case of an Informal Strike-off, which amounts to more than ยฃ25,000, you would need to pay an income tax on the amount. In the case of an MVL, you are usually required only to pay the CGT, but there are circumstances where you would also be liable for income tax, which are,
- The business has five or fewer shareholders.
- You restart a similar business venture within two years of the winding up.
- The primary aim behind your opting for MVL seems to be tax avoidance.
Dividend Tax
Dividend Tax is the tax you pay on income earned via shares in a company in the form of a dividend. It is a form of income tax; however, the dividend tax rates are different from income tax rates.
- The basic rate of tax on dividends is 8.75%
- The higher rate of tax on dividends is 33.75%
- The additional rate of tax on dividends is 39.35%
When computing your income tax, you will add your dividend income to your total income and calculate the income tax. You may need to apply different tax rates on portions of your income, depending upon the source of income.
- Understanding The Workings of Dividend Tax in the UK
How to Pay the Least Tax Closing a Limited Company
Before we move on to the discussion regarding tax saving, we first need to address a fundamental misconception. Is Tax Avoidance and Tax Evasion the same thing?
We must answer this question as minimising tax requires scrutiny, and a single wrong step can come with dire consequences.
What Is Tax Avoidance?
Tax Avoidance is considered the legal way of mitigating your tax liability by using loopholes present in the compliance. The government itself provides these grey areas to provide some relief to business people and residents of the UK; for example, if you want to avoid paying income tax, you can open up an Individual Savings Account (ISA) as all savings present in an ISA account are tax-free. Similarly, traders and businessmen engaged in sole proprietorship can mitigate their tax liabilities by claiming expenses. Although that may sound quite shady by itself, it is not as severe as it sounds.
Using options like Individual Savings Accounts and claiming tax relief on employment expenses are legal ways to reduce your tax liability.
What Is Tax Evasion?
On the other hand, tax evasion is illegal means of lowering your tax liability or not paying tax at all. For example, under-reporting revenues, moving profits to off-shore accounts, falsifying information to the HMRC, not reporting an income source, overstating expenses, or claiming false deductions. Getting convicted in a case of tax evasion can have serious consequences that can lead to hefty fines and imprisonment or both.
Read our complete guide, to learn more about the difference between tax avoidance and tax evasion.
The bottom line is that one of them consists of legal, the government allowed methods to mitigate your tax liability. At the same time, the other one is a criminal activity that can lead to severe consequences. Make sure you pick out the correct way to minimise your tax liabilities.ย
If you are still unsure, itโs always a good idea to seek out professional limited company experts who can help you steer clear of immoral methods and keep you on the correct path.ย
Tax-Efficient Ways Of Closing A Limited Company
Regarding tax-efficient ways of closing a limited company, you are presented with the following options based on your companyโs financial situation.
Formal Strike-Off
- The company hasnโt traded in the last three months.
- It hasnโt changed names in the last three months.
- The company is a going concern.
If you fulfil these requirements, your company can be struck off the Companies House register.ย
Going for a formal strike-off is advisable when the retained earnings from your business are less than ยฃ25,000.
How Does Formal Strike Off Help You Save Tax?
If having retained earnings lesser than ยฃ25,000, it is better to go for the strike-off. After all, you will only be liable to pay the Capital Gains Tax because the amount can be treated as a capital distribution. So instead of spending 8.75, 33.75% or 39.35% (depending on your marginal rate of personal tax) as income tax, you would only be paying 10% as capital gains tax.
Memberโs Voluntary Liquidation (MVL)
Another option to close down your limited company without paying much tax is to apply for a member’s Voluntary Liquidation. To be eligible for initiating an MVL, you first need to fulfil specific requirements.
- The reserve funds held by the company after the distribution of the final liabilities amount to more than ยฃ35,000.
- The company has been trading for over a year.
- The shareholders of the company are the employees and directors of the company.
- The company will not trade again for at least two years in the same industry.
Not all of these requirements are compulsory, but they are advised to gain the maximum benefits from an MVL.ย
How Does An MVL Help You Save Tax?
Opting for an MVL is the most beneficial in the case when your retained earnings are more thanย ยฃ25,000. The dividend distributed with an MVL will be considered Capital Gains and taxed accordingly rather than the usual 8.75%, 33.75%, or 39.35 depending on your marginal personal tax rate) as dividend tax. You would only be liable to pay 10% as Capital Gains tax if you are entitled to Entrepreneursโ Relief or business asset disposal (BAD) relief.
Tips To Legally Minimise Tax
We have designed a list to help you minimise your tax liabilities during your day-to-day business. Implementing these tips and tricks in your daily business might provide more financial stability and protect you from forced closures.
Legal Deductions
Make sure that you correctly use the reliefs provided to you by the government, such as Income Tax allowances, capital gains allowances, travel allowances, and much more. These legal deductions can help you save thousands on taxes every year.
Depreciation
Charging proper depreciation can help you cut down on taxes as it lowers the value of your assets by a certain amount, leading to lower tax rates.
Green Automobiles
With the recent changes and focus on CSR and eco-friendly products, the government allows you certain reliefs if you employ green automobiles in your business.
Bad Debts
Writing off debts you owe from your income can also help you lower your taxable income by a significant amount.
Bonuses And Gifts
Provide your employees with bonuses on specific occasions, such as holding an annual dinner, providing Christmas bonuses, etc.
Invoicing
Keep proper track of your transactions by keeping invoices. This will help you compute taxable income more efficiently.
Bank Reconciliation
Always reconcile your bank statements to ensure that everything is per your records. This would help get a more accurate description of your taxable income by making all expenses and earnings transparent.
Conclusion
Legal tax avoidance during the closure of your company might be a little trickier than most of us expect. Thatโs why it is advised that you always seek out professional help when it comes to closing your limited company without paying taxes. A professional accountant will help you understand your financial position, your tax liabilities, and what would be the best mode of action for your business.
At Clear House Accountants, with the help of our team of expert advisors, we help clients find the most optimal and tax-efficient route for their business and help you liquidate your business most cost-effectively.
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