Does being a trading company or an investment company affect an MVL?

Whether your company counts as a trading company or an investment company is hugely significant if you are planning to close it down through an MVL. Being a trading company is one of the qualifying conditions for Business Asset Disposal Relief (BADR).

If you qualify for Business Asset Disposal Relief then your gains are taxed at just 18%; without it, you’ll need to pay the standard Capital Gains Tax rate instead.

If you’re hoping to claim Business Asset Disposal Relief on the money you take out of your company via an MVL, knowing its trading status before starting the process is vitally important.

Put simply, the difference between a trading company and an investment company is:

• A trading company actively carries on a business selling goods or services for a commercial profit
• An investment company mainly earns passive returns from activities such as rental income from property or income from an investment portfolio

Only a trading company (or the holding company of a trading group) qualifies for Business Asset Disposal Relief upon closure via an MVL; an investment company doesn’t.

For example, a property investment company that holds property to let out for rent is not classed as trading for Business Asset Disposal Relief purposes as rental income is a non-trading activity. A property development company which is actively buying and selling property, however, is generally seen as a trading company.

Very few companies are 100% one thing or the other and HMRC does allow trading companies to have some non-trading activity, however, this cannot be what they would deem as ‘substantial.’

HMRC guidance suggests substantial investment activity is anything over 20%. Several core elements are assessed when determining whether this 20% figure is breached, including the share of income from non-trading sources, the value of non-trading assets, and the time and money spent on them. If non-trading activity stays comfortably below that level, HMRC will usually accept the company is trading without further question.

It must be stated here that 20% figure is HMRC guidance and not the law. A genuinely borderline company needs proper judgement to determine how HMRC will view it. If you are unsure whether your company is classed as a trading company or an investment company, this is something you will need to discuss with your accountant.

Many of the directors we speak to are worried about how the lump sum of cash they have sitting in their company will be treated, particularly if it is gaining interest. It’s natural to be anxious that this might make you an “investment” company and cost you your eligibility for Business Asset Disposal Relief.

The good news is that cash a company has built up from its own trading generally has no impact on its trading status. It’s simply treated as the economic benefit of operating a successful company rather than as separate investment activity.

Where it can become a problem is if a company stops trading entirely and then actively invests its reserves into an investment portfolio or bonds in order to earn a return. At that point the company can tip over into being an investment company. There’s also a timing point tied to BADR: once a company stops trading, the liquidation and distribution generally need to happen within three years to keep the relief.

If there’s any real doubt about your company’s status, your accountant can look at the full picture for you. There’s also a clearance procedure, where they can ask HMRC in advance to confirm whether the company meets the trading test.

It’s worth remembering that even if your company is an investment company and BADR isn’t available, closing through an MVL still gives you capital treatment on any distributions made, which is usually still more tax beneficial than taking the money out as dividends.

If your company’s straightforward and an MVL looks like the right route, you can get a fixed-fee quote in a couple of minutes.