Incorporation Relief in Practice

Incorporation Relief is a tax relief that may apply when an individual or an individual in a partnership transfers their business to a limited company in exchange for shares. This relief can help defer Capital Gains Tax (CGT) that would otherwise be due on the transfer. We have outlined the main points and examples of Incorporation Relief.

Incorporation Relief: A Guide to Defer Capital Gains Tax on Business Transfers

When a sole trader or partners in a partnership decide to incorporate their business by transferring it to a limited company in exchange for shares, they might be eligible for Incorporation Relief. This relief allows them to defer Capital Gains Tax (CGT) that could arise from transferring business assets, including property.

Key Aspects of Incorporation Relief

1. Eligibility: Incorporation Relief is available to individuals who transfer their entire business, including all assets (except cash), to a limited company in exchange for shares. The relief is not available for partial transfers or if the business is sold for other consideration besides shares.
2. Deferral of CGT: Incorporation Relief allows for the deferral of CGT on the transfer of business assets. Instead of paying CGT immediately, the gain is deferred and effectively “rolled over” into the cost of the shares received in the limited company.
3. Calculation of the new share cost: The base cost of the shares received is calculated by taking the original cost of the transferred assets and subtracting the deferred gain. This adjusted cost will be used to calculate CGT when the shares are eventually disposed of in the future.

Incorporation Relief in Practice: An Example

Consider the following example to illustrate how Incorporation Relief works:

Jane has been operating her business as a sole trader. She incorporated her business by transferring all her assets to a newly formed limited company, Jane Ltd. In exchange for the business assets, Jane receives shares in Jane Ltd. The business assets transferred have a total market value of £200,000, and their original cost was £100,000. Therefore, the gain on the transfer of assets is £100,000 (£200,000 – £100,000).

Without Incorporation Relief, Jane would be liable for CGT on the £100,000 gain. However, with Incorporation Relief, the £100,000 gain is deferred and “rolled over” into the cost of the shares received in Jane Ltd. Jane’s base cost for the shares in Jane Ltd is now £100,000 (original cost of assets – deferred gain). Therefore, when Jane eventually sells her shares in Jane Ltd, the adjusted base cost of £100,000 will be used to calculate her CGT liability.

Please note that this article is for informational purposes only and should not be considered professional tax advice. In addition, tax laws and regulations may change over time. Therefore, always consult a professional tax advisor for the latest and most accurate information. You can call us to discuss your personal circumstances with our specialist tax advisors.