Solvent liquidation with tax benefits

When shareholders receive a dividend while the company is trading, it will be classed as income and is taxed accordingly. On the other hand, if a company has reached the end of its life and is still solvent, it is better for shareholders if they close the company and receive the funds as a capital distribution.

What is a solvent company?

A solvent company can be defined in three different ways.

• Cash flow test – Quite simply, if you cannot pay your bills and liabilities as and when they fall due, you may be insolvent.
• Balance sheet test – If the company’s liabilities exceed the value of your assets, then you could be insolvent. This test does not always give a definitive answer as company’s can often be in this situation, but they aren’t insolvent, it’s just how their cashflow works.
• Legal action test – Serious warning signs come in the form of creditors threatening you with legal action. This could come as County Court Judgements, statutory demands or even winding up petitions.

Why would I close down a solvent company?

So, if you have a successful and well-run company, you may wonder why would I want to close it down? If things are going well why shut down the business?

Common reasons could be if the director retires and they’re looking to withdraw their initial investment from the company. Some directors may no longer want the responsibility of running a large business and want to retire. In some circumstances, personal situations change and directors may be forced into closing down a company.

Tax benefits

A Members Voluntary Liquidation (MVL) is the most straightforward liquidation process for a solvent company. It works in a very similar way to a standard liquidation, with all of the company assets sold off, before using that pot of money to cover any company liabilities.

Perhaps the biggest benefit for those seeking an MVL is the tax benefit. If the available funds to distribute after all are over £25,000, the most appropriate way of receiving a tax benefit is through entrepreneur’s relief. Shareholders receiving this distribution (up to £10 million in their lifetime) will be entitled to entrepreneur’s tax at 10%.

Find out everything you need to know about MVL’s

HMRC concessions

If the distributions are less than £25,000, you can obtain concessions from HMRC for the company. The funds will be paid as a capital distribution and then the company is struck off. However, the moment distributions under this section exceed £25,000 they all count as dividends, leading to an additional tax liability for higher-rate taxpayers.

In summary

While companies are trading, any dividends received will be classed as income and will be taxed in the same way. If the directors decide to close the company while it’s in a solvent state, there are two options available. The first applies if the company’s turnover is less than £25,000; wherein the company can obtain concessions from HMRC as capital distributions after striking off.  For any amount above £25,000, the company can still gain these tax benefits as dividends via a Members Voluntary Liquidation (MVL), a solvent liquidation process with varied costs depending on the company.