Management buyout: Key tax issues for business owners
Steve Tebbutt · Posted on: January 19th 2024 · read
A Management Buy-Out (MBO) may arise whereby a business owner is looking to realise the value created through their ownership, or where a group of companies want to sell a subsidiary or division of a business to the incumbent Management Team.
In both cases, the existing Management Team would have extensive knowledge and experience of running the business on a day-to-day basis and therefore could be a viable option for the shareholders to sell to them.
What is a Management Buy-Out?
In the most simplistic terms, an MBO is where an existing Management Team within a business acquires the majority or up to 100% of the existing shareholding, from the current shareholders.
The Management Team will take full control, using their expertise to drive the company forward, such that they will be in a similar position in the future to realise the value they have created down the line.
There are number of situations in which a vendor may deem an MBO to be the best option available and in all cases, there will be various considerations around the legal implications, funding, and valuation.
It is vital to understand and consider the key tax and ancillary issues when embarking on corporate restructuring and management buyout endeavours.
What are the key tax issues?
- Ensuring Capital Gains Tax treatment for vendors Vendors will hope that any gains realised will only be subject to Capital Gains Tax (CGT), at 20% or 10% (depending on their personal tax position and whether they qualify for Business Asset Disposal Relief) but there is a risk that HM Revenue & Customs (HMRC) will argue that funds taken should be subject to dividend income tax at up to 39.35%. An advance clearance application to HMRC is usually advisable to have comfort and protection on this.
- Avoiding CGT for continuing shareholders In many cases, individuals will exchange some of their original shares for shares in a new company (NewCo) as part of the MBO process. Where the transaction is for bona fide commercial reasons, it can be possible to avoid CGT on this exchange. Again, an advanced clearance application is recommended in most cases
- Avoiding employment tax charges If a vendor receives more than the market value of their shares, or if value is shifted to any party, then this can create employment tax charges for the beneficiary. This can be up to 45% employment income tax for the individual, and there can also be national insurance contribution (NIC) at a further 2% for the individual and at 13.8% for the employer. A valuation is often recommended to support the value used and limit this risk. An analysis of how the original shares were acquired would also be needed to determine whether any gains are charged to employment income tax and NIC.
- Managing timing of tax payments Different forms of consideration will each have different tax issues that would need to be managed. In some cases, it is possible to make elections to accelerate tax charges at lower rates, but advice should be taken before doing this.
- Tax relief for new investors The incoming MBO team will wish to consider any income tax relief they can obtain on interest from borrowings, and possibly Venture Capital Relief to provide CGT exemption on future sale of shares in NewCo.
- Stamp Duty Stamp Duty may apply in NewCo at a rate of 0.5% on the acquisition of the Company. Mitigation strategies may be available help reduce this cost.
What ancillary tax issues should you consider?
Aside from these primary concerns, there are various ancillary tax matters to consider:
Reporting
There will be various reporting requirements and elections to consider by all individuals and the companies concerned, upon which advice should be sought to limit unwanted penalties, interest, and correspondence.
Tax relief on MBO costs
Some costs associated with MBO’s may be considered capital in nature by HMRC. Interest and other costs associated with the transaction are generally tax-deductible. Advice should be sought.
Quarterly Instalment Payment Regime
The creation of NewCo would increase the risk of the group falling within higher rates of Corporation Tax and Quarterly Instalment Payment Regime. This can have a significant impact, but there are often opportunities to mitigate these risks.
VAT Recovery
The group may face challenges in recovering input VAT on MBO-related costs. Careful planning can help improve VAT recovery prospects and potentially necessitate a review of group VAT registration.
Understanding the key tax and ancillary issues is vital
It is vital to understand and consider the key tax and ancillary issues when embarking on corporate restructuring and management buyout endeavours. Seeking professional advice and clearance from HMRC can help ensure a smoother and more tax-efficient process.
How can MHA help?
We can advise on the tax implications of the proposed transaction, assist with an advance clearance application to HMRC to manage the risk of tax charges arising, and provide guidance on the other issues explained in this article, including the necessary reporting and payment requirements for all parties.
As indicated in this article, a valuation is often recommended for tax purposes. It will also be needed for commercial purposes (if not already known by the business), along with the creation of a deal structure that works for all parties, including a prospective funder. MHA can assist with reaching a valuation and structure that can be deemed as fair and equitable for both the shareholders and the Management Team.
Upon reaching an agreed valuation and structure, MHA can assist with funding requirements through producing a business plan and financial forecasts that will assist funders in assessing the overall quantum, term, and associated covenants of the debt package to fund the transaction.
Find out more
To discuss this topic further and how these changes may impact you and your business, or for any questions on personal tax matters, please contact our tax team.
