Your firm has been asked to provide advice to Methley Ltd, a close company, in respect of the provision of share incentives, a motor car and an interest-free loan to employees. A non-UK domiciled employee also requires advice in relation to the remittance basis.
Methley Ltd:
– Is a UK resident trading company which is a close company.
Simon – share incentives:
– Simon is a director of Methley Ltd and owns 20% of its ordinary shares.
– Methley Ltd intends to provide Simon with shares worth £25,000, in the form of either free shares or share options.
– The free shares would be issued as employee shareholder shares in June 2017.
– The share options would be issued under an approved company share option scheme (CSOP) in June 2017 and Simon would exercise the options in October 2021.
– In either case, Simon will sell the shares in December 2022.
– Simon is a higher rate taxpayer.
Chris:
– Is employed by Methley Ltd and owns 10% of its ordinary shares.
– Has been offered the sole use of a company motor car or, alternatively, a loan to enable him to purchase the same motor car himself.
– Is a higher rate taxpayer.
Chris – alternative 1 – company motor car:
– Methley Ltd would purchase the motor car on 1 October 2016 for £9,600, which is £800 less than the list price.
– The motor car would immediately be made available to Chris exclusively for his private use.
– The motor car has CO2 emissions of 108 grams per kilometre and is diesel powered.
– Chris would contribute £700 per year towards the private use of the motor car.
– Methley Ltd would give the motor car to Chris after three years, when its market value is expected to be £6,300.
Chris – alternative 2 – loan:
– Methley Ltd would provide Chris with an interest-free loan of £9,600 on 1 October 2016.
– The loan would be written off in three years’ time.
Yara – non-UK domiciled employee:
– Is currently resident in the UK but domiciled in the country of Setubia.
– Became UK resident when she was employed by Methley Ltd on 1 April 2008.
– Receives an annual salary from Methley Ltd of £80,000 and has no other UK source of income.
– Receives rental income from an unfurnished residential property in Setubia.
Yara – overseas rental income:
– The gross annual rental income from the overseas property is £24,000.
– Yara only remits £15,000 of this income to the UK each year.
– Yara has previously claimed the remittance basis each tax year.
Required:
Compare and contrast the tax implications of both the acquisition and disposal of the shares in Methley Ltd if Simon acquires the shares through an approved company share option scheme (CSOP) or, alternatively, as employee shareholder shares.
Note: You are not required to comment on any national insurance contributions implications.
Simon – company share option scheme (CSOP) versus employee shareholder shares
Acquisition of the shares
Under a CSOP, there will be no charge to income tax in respect of the grant or exercise of the option given that Simon intends to exercise the option between three and ten years after the date of the grant.
There will be a charge to income tax if Simon receives employee shareholder shares. Simon would, however, be deemed to have paid £2,000 for the shares, so only the excess value over this amount would be taxable. Accordingly, Simon would have an income tax liability of £9,200 ((£25,000 – £2,000) x 40%) in the tax year 2017/18.
Disposal of the shares
On disposal of the CSOP shares by Simon in the tax year 2022/23, any gain will be subject to capital gains tax (CGT). The gain will be calculated by reference to the amount paid for them.
As the value of the employee shareholder shares on acquisition will not exceed £50,000, any gain on the first disposal by Simon in 2022/23 will be exempt from CGT. However, any loss will not be allowable for CGT purposes.
Tutorial note: As Simon is a director of Methley Ltd, and will have held the shares for more than one year, any gain on disposal of the CSOP shares may qualify for entrepreneurs’ relief and a 10% rate of CGT provided Methley Ltd remains a trading company and Simon holds at least 5% of the ordinary share capital and the voting rights.
Prepare calculations to determine which of the two proposed benefits (the company motor car or the loan) will result in the lower overall income tax cost for Chris.
Chris – provision of benefits
Provision of the company motor car
List price of the motor car: £10,400 (£9,600 + £800)
Percentage to be used: 19% (14% + 1/5(105 – 95) + 3%)
Annual benefit: £1,976 (£10,400 x 19%)
The total amount taxable as employment income is therefore £10,128 (£3,828 (£1,976 – £700) x 3 + £6,300)) and the income tax cost to Chris is £4,051 (£10,128 x 40%).
Provision of the loan
As the amount of the interest-free loan never exceeds £10,000, there is no taxable benefit in respect of it.
When the loan is written off, this will be treated as a distribution as Chris is a shareholder in Methley Ltd, which is a close company. Accordingly, an income tax charge of £2,400 (£9,600 x 25%) will arise in the year the loan is written off.Provision of the loan will therefore result in a lower overall income tax liability for Chris.
Provision of the loan will therefore result in a lower overall income tax liability for Chris.
Advise Yara whether or not it would be beneficial for her to claim the remittance basis in the tax year 2015/16, and calculate the increase, if any, in her income tax liability for the tax year 2015/16 compared to that of previous years, assuming that she chooses the most tax beneficial course of action.
Note: You are not required to consider the potential availability of double taxation relief (DTR).
Yara – UK income tax on overseas income in the tax year 2015/16
As Yara has been resident in the UK for seven tax years prior to 2015/16, she will be liable to pay a remittance basis charge of £30,000 if she continues to elect for the remittance basis.
In previous years Yara paid UK income tax of £6,000 (£15,000 x 40%) on her foreign rental income remitted to the UK. She would not have been liable to pay the remittance basis charge.
Claiming the remittance basis in 2015/16 would increase her income tax liability by £30,000 to £36,000 (£6,000 + £30,000).
However, if Yara does not claim the remittance basis in 2015/16, she will be taxed on the arising basis instead. In this case, she will pay tax on the full amount of the foreign rental income arising in the tax year of £24,000. This will result in UK income tax payable of £9,600 (£24,000 x 40%).
Yara will also be entitled to the personal allowance, which she lost in previous years when the remittance basis was claimed. As her net income will be £104,000 (£80,000 + £24,000), the personal allowance available will be restricted to £8,600 ((£10,600 – 0·5 x (£104,000 – £100,000))). This will result in an income tax saving of £3,440 (£8,600 x 40%).
Therefore Yara’s income tax on her foreign rental income on the arising basis, net of the tax saving as a result of the personal allowance, will be £6,160 (£9,600 – £3,440).
Claiming the remittance basis would not be beneficial for Yara in 2015/16. Accordingly, her income tax liability for 2015/16 in respect of her foreign rental income will increase by £160 (£6,160 – £6,000) compared to that payable in previous years.