In the midst of the Autumn Statement, it is easy to overlook that the government was also consulting on the recommendations around Employee Ownership Trusts following recent consultations.

Under the Autumn Budget 2024, the government made numerous changes to the current EOT Regime that was in response to a consultation on EOTs which ran in 2023 and which has recently been published.

The changes take effect from the date of the Autumn Budget, 30 October 2024, but will also be enshrined in law in the incoming Finance Bill 2025.

The positive news is that the tax treatment of EOTs is not impacted by the budget and an EOT remains the most tax efficient way for a business owner to exit a business. A seller will not pay any capital gains tax on the sale of a business to an Employee Ownership Trust and given the increases in capital gains tax coming into effect in April 2025, it is highly likely that there will be an increasing number of conversions to EOTs in 2025.

Following the consultation, there have however been a number of recommendations regarding the structure of EOTs. This may also mean that existing Employee Ownership Trusts may need to reconsider how they have been set up to ensure that they remain compliant with the new rules.

Key changes following the budget

You can read the full rules here around Taxation of Employee Ownership Trusts and Employee Benefit Trusts.

The purpose of this article is to summarise the key changes which came into effect on 30 October 2024.

A disposal to an EOT has significant benefits for a seller as, provided they comply with the EOT legislation contained in 236H to 236U of the Taxation of Chargeable Gains Act 1992 (“EOT Regime”), the disposal will be exempt from capital gains tax (“CGT”).

“236H (3) “The disposal, and the acquisition by the trustees, are to be treated for the purposes of this Act as being made for such consideration as to secure that neither a gain nor a loss accrues on the disposal.”

This can potentially save the seller a significant sum of money as under the budget the CGT rate for higher income rate income tax payers was set at 24% in the Autumn Budget 2024 meaning that for every £1,000,000 in consideration, £240,000 in tax will be due payable. Business owners will ordinarily qualify for Business Asset Disposal Relief (BADR) on the first £1,000,000 of a sale but the rate of tax under BADR will increase to 14% in April 2025 and increase again to 18% in April 2026.

Failure to comply with these changes will result in the disposal not being CGT exempt, the relief being unavailable and the seller being responsible for paying CGT on the disposal.

  • From 30 October 2024, former owners and their connected persons cannot retain control after a sale to an EOT by controlling (directly or indirectly) the EOT.
    • The aim of this provision is to restrict former owners or persons connected with former owners from retaining control of companies post-sale to an Employee Ownership Trust by virtue of control (direct or indirect) of the Employee Ownership Trust.
    • Sellers would need to give over control of the Trust and not just the company to the employees. There is nothing to suggest they cannot be a member of the Trust but they cannot have ultimate control over it.
    • Therefore, it would be prudent to create an EOT board where the sellers (often referred to as Founders) do not have a majority on the board of trustees.
  • The trustees of an EOT must be UK resident (as a single body of persons) at the time of the sale to the EOT
    • The sellers must be UK residents at the time of the sale.
  • The trustees must take reasonable steps to ensure that the consideration paid to acquire the shares does not exceed market value.
    • This would suggest that a formal valuation of the EOT is required to ensure that the trustees comply with their duties as trustees under the Trust. If the founder is also a trustee and seeks to sell for an inflated price then this would also breach their duties as a trustee. There needs to be a reasonable explanation for the price that the EOT is paying for the shares.
  • Contributions made by a company to an EOT to pay for the shares will not be charged to income tax as a distribution.
    • This streamlines the process in EOT sales as the EOT trust has no funds and needs the contribution from the company to pay for the shares and the bonus to the employees. Removing this requirement makes it easier to make the distribution and removes the red tape around the initial distribution and subsequent distribution to employees.
    • This will give legislative confirmation of the treatment that is currently routinely confirmed through clearance applications.
  • EOT tax-free bonus rules are amended to allow bonuses to be awarded to employees without directors being included.
    • Under previous arrangements directors were included in the eligible employee provisions for the purpose of distributions under the profit distribution rules. The new rules provide that directors can be excluded from the profit distribution, but do not have to be excluded. It is a choice.
  • Increased length of scrutiny for relief
    • For claims for the tax year 2024-25 onwards, the time within which tax relief can be withdrawn if the EOT conditions are breached is extended to the end of the fourth tax year following the tax year of disposal and individuals are required to provide additional information to HMRC when claiming the relief.
  • Disposals qualifying for IHT relief
    • A transfer to an EOT/EBT may be exempt from inheritance tax provided the following criteria are met on the disposal of the estate:
      • the shares must have been held for two years before transfer into the EBT/EOT.
      • restrictions on connected persons benefiting from an EBT/EOT must apply for the lifetime of the Trust. The restriction being that no more than 25% of employees who can receive income payments should be connected to the participator in order for the Employee Benefit Trust to benefit from favourable tax treatment.
    • This is to prevent the disposal to the EOT by the sellers to then allow the tax benefits to be spread between the family members of the sellers allowing for duplication in tax relief for the sellers and their family.
    • This doesn’t affect the EOT disposal criteria but may affect the sellers’ ability to claim IHT relief on the disposal of the company to the EOT.

If you’d like to find out more about Employee Ownership Trusts, you can visit our microsite at www.employeeownershipadvisor.co.uk.

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