Employee Ownership Trusts: Autumn Budget changes

At the Autumn Budget on 30 October 2024, the government announced the introduction of a package of reforms to the taxation of Employee Ownership Trusts (EOTs) and also published its long-awaited response to the consultation on Employee Ownership Trusts and Employee Benefit Trusts.

Legislation will be introduced in the Finance Bill 2024-25 to give effect to the changes set out below. The changes in paragraphs 1 to 5 all take effect from 30 October 2024. The change in paragraph 6 applies to claims for capital gains tax (CGT) relief made on or after 6 April 2025.

1. Control: a new “trustee independence requirement” has been introduced. This requirement means that the former owners or persons connected with the former owners are prevented from retaining control of the company post-sale to the EOT by virtue of powers under the trust deed and less than 50% of the trustees of the EOT can be former owners or persons connected with them. If the trustee independence requirement fails to be satisfied during the first four tax years following the tax year of disposal this will result in a “disqualifying event” occurring (and consequent withdrawal of the vendor’s CGT relief on sale). If the requirement is not met after the first four tax years following the tax year in which the disposal occurs, this will result in a “disqualifying event” and a “deemed disposal” by the EOT of the company for CGT purposes. Provisions will permit a temporary breach of the trustee independence requirement where the breach results from the death of a trustee.

TLT comment: We do not anticipate that the introduction of the “trustee independence requirement” will have a significant impact on EOT structures going forwards (the requirement does not have to be satisfied by existing EOT structures which are already in place) and we would typically advise clients to ensure that the EOT is not controlled by the former owners (or persons connected with them) for reasons of good governance.

2. Residence: the trustees of an EOT must be UK resident (as a single body of persons) at the time of disposal of the company to the EOT and continue to be UK resident for the remainder of the tax year in which the disposal occurs. Failure to remain resident in the UK during the first four tax years following the tax year of disposal will result in a “disqualifying event” occurring (and consequent withdrawal of the vendor’s CGT relief on sale). If the EOT trustees cease to be resident in the UK after the first four tax years following the tax year in which the disposal occurs, this will result in a “disqualifying event” and a “deemed disposal” by the EOT of the company for CGT purposes. Provisions will permit a temporary breach of the residence requirement where the breach results from the death of a trustee.

TLT comment: EOT advisers have been lobbying the government to introduce an EOT trustee UK residence requirement for some time and therefore the introduction of this requirement is unsurprising. We would not expect the new UK residence requirement to be of particular concern for new EOT structures and as with the trustee independence requirement, the residence requirement will not apply to existing EOT structures.

3. Market value: the trustees of an EOT must take all reasonable steps to ensure that the consideration paid to acquire the company shares does not exceed market value at the time of the disposal and that where some or all of the consideration for the disposal is deferred, that the rate of any interest payable in relation to the deferral does not exceed a reasonable commercial rate.

TLT comment: This change aligns with good practice and we would typically expect both the vendors and the EOT trustees to want the comfort of obtaining an independent third party valuation of the relevant company in any event. As such, the new market value requirement is not a major change to the way in which EOT transactions are carried out in practice.

4. Vendor clawback period: the period within which the tax relief on the sale of the company to the EOT can be recovered from the vendors if the EOT conditions are breached post-sale will be extended to the end of the fourth tax year following the end of the tax year of disposal (pre-30 October 2024 that period was limited to the end of the tax year following the tax year in which the disposal occurred).

TLT comment: This is the most unexpected of the changes to the EOT regime announced by the government. The extension of the clawback period from 1 year to 4 years is a more substantive change to the regime. However, the purpose of the EOT structure has always been the transition of the business to employee ownership for the long-term and with that in mind, the extension to a four year period is not unreasonable. Vendors will need to be aware of the new clawback period, which will only apply in relation to disposals to an EOT on or after 30 October 2024.

5. Annual bonus payments: it will now be possible to exclude directors from the ‘participation requirement’ (which requires that all employees be eligible for the bonus payments) for the purposes of determining whether income tax relief is available on annual bonus payments made to employees of the EOT owned company.

TLT comment: This change is a relaxation to the existing rules relating to annual bonus payments and the flexibility to exclude directors is therefore welcome.

6. Reporting: the information that an individual vendor is required to provide within their claim for CGT relief has been extended to include information on the sale proceeds and the number of employees of the company at the time of disposal.

TLT comment: The additional information requirements are minor and will not represent a significant additional burden for individual vendors claiming CGT relief.

In addition to the above, legislation will be introduced in the Finance Bill 2024-25 providing a specific relief from income tax distribution treatment for contributions paid by the EOT-owned company to the trustees of the EOT to fund the following costs associated with setting up the EOT:

1. Contributions made to the EOT in order for the EOT to pay the consideration to the vendors for the disposal of their shares;

2. Contributions to pay any liability to stamp duty or stamp duty reserve tax on the disposal; and

3. Where some or all of the consideration for the disposal is deferred, contributions made in respect of any interest payable on the deferred consideration as long as the rate of interest does not exceed a reasonable commercial rate.

TLT comment: This new relief, which applies to distributions made on or after 30 October 2024, will mean that those contributions will not be taxed as distributions for income tax purposes. The legislation simply, but helpfully, confirms the treatment of such contributions that is typically confirmed via an HMRC non-statutory clearance application.

HMRC has also confirmed that from 30 October 2024 it will no longer provide a clearance to a company (or its advisers) that the tax anti-avoidance provisions in s464A of the Corporation Tax Act 2010 do not apply to the establishment of an EOT by that company.

TLT comment: It is our view that the establishment of a genuine EOT structure does not involve any anti avoidance motive and therefore a clearance under s464A of the Corporation Tax Act 2010 is unnecessary. As such, HMRC’s decision not to provide those clearances will not be a concern when establishing a new EOT structure.

If you would like more information on EOTs or any of the changes to EOTs announced at the Autumn Budget 2024, please contact a member of the team.

Co-authors: Ben Watson and Douglas Roberts

This publication is intended for general guidance and represents our understanding of the relevant law and practice as at November 2024. Specific advice should be sought for specific cases. For more information see our terms & conditions.