Goodwill on incorporation.
Discussion
I've decided to incorporate my business, and my accountant asked me to read up on the topic of goodwill.
I have spent nearly all day yesterday reading up, but I'm a bit stuck with the differences between what's allowed to be claimed if my business was started before or after the 1st April 2002 when the rules changed.
My business did start before that date so can someone please explain in simple terms what I can claim and how the sum will be taxed.
I think I understand the rules for business' that we're started after this date, but don't know how it differs if started before 1/4/02.
For the examples, let's say I value my goodwill at £100k.
Thanks for any help.
I have spent nearly all day yesterday reading up, but I'm a bit stuck with the differences between what's allowed to be claimed if my business was started before or after the 1st April 2002 when the rules changed.
My business did start before that date so can someone please explain in simple terms what I can claim and how the sum will be taxed.
I think I understand the rules for business' that we're started after this date, but don't know how it differs if started before 1/4/02.
For the examples, let's say I value my goodwill at £100k.
Thanks for any help.
Yes, I am aware of that, but I don't understand what the whole thing means in its entirety.
How do the rules change for a business that was started before and after the 2002 date?
Am I still allowed to draw down on the £100k? Or is the entire goodwill thing not allowed on business' started before 2002?
How do the rules change for a business that was started before and after the 2002 date?
Am I still allowed to draw down on the £100k? Or is the entire goodwill thing not allowed on business' started before 2002?
I think the 2002 thing relates more to internally generated goodwill? Perhaps someone who has seen this point more in practice may like to confirm?
In respect of goodwill upon incorporation you are essentially trying to arrive at the value a third party purchaser would pay for the free and saleable goodwill in your business at the date of incorporation. This is the value the simply relates to the name and not the goodwill of the proprietor or the premises from which the business operates. Essentially if I purchased 'Widgets incorporated' from you with the aim of operating it from my premises, and without you, how much would I pay?
The Goodwill figure would essentially be the whole company value (including deductions of market rate salaries for the proprietor / market rate rent) less net asset value (assets at market value if higher than book value in reality).
Say this did leave you with a value of £100k for the goodwill upon incorporation you personally would realise this as a capital gain and as such there may be tax to pay (although in reality Entrepreneurs relief is more than likely going to apply). Although the LTD company could pay you the £100k cash (if it had it) in practice this is typically left as a directors loan and drawn down over a period of time (tax free).
One word of warning, goodwill is a topic that HMRC (especially shares and assets valuation) is fairly hot on, so make sure your valuation is robust.
ETA: The 2002 point is more related the Corporation Tax position of the new entity (which is outside of my area of expertise). It should have no effect on your ability to sell the goodwill to a connected LTD and then draw down on this amount in it's entirety.
In respect of goodwill upon incorporation you are essentially trying to arrive at the value a third party purchaser would pay for the free and saleable goodwill in your business at the date of incorporation. This is the value the simply relates to the name and not the goodwill of the proprietor or the premises from which the business operates. Essentially if I purchased 'Widgets incorporated' from you with the aim of operating it from my premises, and without you, how much would I pay?
The Goodwill figure would essentially be the whole company value (including deductions of market rate salaries for the proprietor / market rate rent) less net asset value (assets at market value if higher than book value in reality).
Say this did leave you with a value of £100k for the goodwill upon incorporation you personally would realise this as a capital gain and as such there may be tax to pay (although in reality Entrepreneurs relief is more than likely going to apply). Although the LTD company could pay you the £100k cash (if it had it) in practice this is typically left as a directors loan and drawn down over a period of time (tax free).
One word of warning, goodwill is a topic that HMRC (especially shares and assets valuation) is fairly hot on, so make sure your valuation is robust.
ETA: The 2002 point is more related the Corporation Tax position of the new entity (which is outside of my area of expertise). It should have no effect on your ability to sell the goodwill to a connected LTD and then draw down on this amount in it's entirety.
Edited by mx stu on Tuesday 7th January 17:14
Edited by mx stu on Tuesday 7th January 17:15
If you have "legitimate" Goodwill as an asset in your company balance sheet, the depreciation charged each year in respect of that Goodwill is an allowable cost as far as Corporation tax is concerned.
For that reason, HMRC want to make sure that directors are not "pulling a fast one" (technical term) in "inventing" falsely high Goodwill levels and then claiming the annual depreciation cost against their company profits.
However, as the previous poster has said, if you calculate the Goodwill levels in an acceptable manner - preferably using a 3rd party professional - HMRC are less likely to be a problem.
For that reason, HMRC want to make sure that directors are not "pulling a fast one" (technical term) in "inventing" falsely high Goodwill levels and then claiming the annual depreciation cost against their company profits.
However, as the previous poster has said, if you calculate the Goodwill levels in an acceptable manner - preferably using a 3rd party professional - HMRC are less likely to be a problem.
Thanks guys.
I think I understand the issue over the 2002 change.
So, irrespective of when I started the business, I'm able to "sell" my goodwill to the new LTD company, then draw down on the directors loan each year and effectively "pay" myself that money back. The 2002 issue is just over how much, and what type of tax I have to pay HMRC on the directors loan repayments I make to myself. Is that right?
I do hope I'm not sounding like a total dummy here!! It is all a bit confusing!
I think I understand the issue over the 2002 change.
So, irrespective of when I started the business, I'm able to "sell" my goodwill to the new LTD company, then draw down on the directors loan each year and effectively "pay" myself that money back. The 2002 issue is just over how much, and what type of tax I have to pay HMRC on the directors loan repayments I make to myself. Is that right?
I do hope I'm not sounding like a total dummy here!! It is all a bit confusing!
Just to be clear. You cannot get a tax deduction for the goodwill. Period. Because the business started pre April 2002, and you are selling it to a company you control.
The other side of the accounting entry for goodwill on the balance sheet of the company will be share capital or a loan owed to you. You have a choice on how you account for the transaction in which you have effectively sold the goodwill to the company for consideration, being shares or a loan.
If you account for the consideration as a loan, you will be taxed on the disposal and any profit (probably the whole 100k) will be subject to capital gains in your hands. You can draw the 100k from the business at any time without any further tax.
If shares are issued to you in exchange for the assets sold to the company, no gains will arise when you incorporate the business. The capital gains are effectively deferred until you sell the shares of the company when you may be entitled to other reliefs.
For goodwill relating to a business you started post April 2002, companies can get tax deductions for the goodwill. Either in accordance with the accounting amortisation of the goodwill, or by election at 4% per annum. Prior to April 2002, there was no such tax relief for goodwill. It was treated as a capital gains asset.
Hope this helps.
The other side of the accounting entry for goodwill on the balance sheet of the company will be share capital or a loan owed to you. You have a choice on how you account for the transaction in which you have effectively sold the goodwill to the company for consideration, being shares or a loan.
If you account for the consideration as a loan, you will be taxed on the disposal and any profit (probably the whole 100k) will be subject to capital gains in your hands. You can draw the 100k from the business at any time without any further tax.
If shares are issued to you in exchange for the assets sold to the company, no gains will arise when you incorporate the business. The capital gains are effectively deferred until you sell the shares of the company when you may be entitled to other reliefs.
For goodwill relating to a business you started post April 2002, companies can get tax deductions for the goodwill. Either in accordance with the accounting amortisation of the goodwill, or by election at 4% per annum. Prior to April 2002, there was no such tax relief for goodwill. It was treated as a capital gains asset.
Hope this helps.
Edited by Alpinestars on Wednesday 8th January 07:08
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