John Healey is considering proposals to levy income tax rather than capital gains tax when owners hand their companies down to the next generation, a change that could almost double the tax bill on some transfers, ahead of his first Budget on 28 October.
The plan would target a route that retiring owners frequently use to pass on a family firm. Rather than sell the business to their children and trigger a large one-off tax bill, parents often convert their holdings into redeemable shares, which the company then buys back using its profits.
That buyback currently attracts capital gains tax, charged at 24 per cent for higher-rate payers, compared with 45 per cent for income tax.
On those figures, an owner handing down a £1m business using redeemable shares could pay up to £450,000 in tax under the proposed rules, up from £240,000 under the current regime. Selling the business on the open market would still be taxed as a capital gain.
Industry sources said the Chancellor was likely to present the change as a stricter approach to tax avoidance rather than a tax raid. They said it could in theory raise hundreds of millions or even billions of pounds over several years, but that in practice many owners would try to avoid it by selling or finding other, more complex ways to hand down their businesses.
HMRC published its consultation on modernising the taxation of distributions on 23 June, and it closed on 14 September, six weeks before the Budget.
The document proposes replacing the subjective “trade benefit” test that governs when a company’s purchase of its own shares is taxed as capital with a more mechanical set of conditions. Under one proposal, the required holding and working period would rise to five years where a departing shareholder keeps family connections with the remaining shareholders and directors. HMRC states that the government will only proceed where commercial activity is not adversely affected.
John Endacott, a partner at chartered accountants PKF Francis Clark, said the consultation seemed to have been “timed to facilitate an autumn Budget announcement”.
He said: “Long-standing family companies are still adjusting to the inheritance tax changes. Further taxes on passing businesses to the next generation risk taxing them to extinction.”
KPMG, one of the big four accounting firms, said it had “significant concerns” that the plans risked “discouraging intergenerational transfers of ownership”.
Andrew Griffith, the shadow chancellor, said: “This Labour Government seems determined to squeeze every part of the economy, punishing the people who take risks, create jobs and build businesses for future generations.”
He added: “These changes are set to make it easier to sell a family business than to pass it on to your own children. That cannot be right.”
A Treasury spokesman said: “As has always been the case, decisions on tax are a matter for the Chancellor to set out at fiscal events, rather than routinely commenting on rumour, speculation or proposals.”
Family firms are already adjusting to inheritance tax changes made by Rachel Reeves, Mr Healey’s predecessor, which cut the relief available when a business or farm is passed on after death. Together, the changes to family businesses and farms are expected to raise £300m a year.
Farmers initially faced inheritance tax on assets worth more than £1m. Following sustained protests, the threshold was raised to £2.5m, in line with the new limits on business relief that took effect in April, although the Government still faces calls to scrap the tax entirely.
The Institute for Fiscal Studies has said the Chancellor might need to find “tens of billions of increase in taxes” to avoid spending cuts.
Analysis by EY-Parthenon released today found that 65 UK-listed companies issued profit warnings between July and September, a near two-year high. Separately, a Teneo survey of 100 senior investors found that 32 would consider pausing, reducing or stopping UK investment over the next 12 months if business taxes rise sharply.
