Question(s) about acquiring a company

[Khaled.A]

Hi,

I have a question and perhaps I may make this sound overly complicated but please bear with me as I really want to make sure I provide all the relevant information so I can get accurate replies.

I own a limited company (let's call it ABC Ltd.) and am looking to acquire another limited company (let's call them XYS Ltd.).

The owner (100% shareholder) of XYz Ltd is looking for £500,000 for his company. He is agreeable to be paid £50,000 over 10 years.

My accountant has presented me two ways in which this acquisition can go ahead.

1. 100% Share Buy
2. Asset Buy

Both present obstacles (as described to me by the accountant).

In the case of the 100% share buy:
- ABC Ltd. would be taxed on ALL profits and the money we pay to XYZ Ltd. on a monthly basis does not benefit from any tax relief or get treated as an expense.
- Any money we take from ABC Ltd. is taxable and treated as a dividend or a wage.
- The £500,000 sits on our books and there is no draw down.
- The owner of XYZ Ltd. can claim Entrepreneurs' Relief

In the case of an asset buy:
- The £500,000 sits in the Director's Loan account and can be drawn down
- The owner of XYZ Ltd. does not get Entrepreneurs' Relief and is liable for Corp Tax.

I'm caught between a rock and a hard place. The current owner of XYZ Ltd. will not sell if he does not get Entrepreneurs' Relief. I can't see how the deal is beneficial to me if I sink £500,000 into a company and can't claim it back. Apparently, even if it took a loan to buy it, I could only claim back the interest on the loan in the 100% share buy scenario.

There HAS to be a better way of doing this and I was hoping that someone could give me suggestions or even point me in the right direction.

Thanks for being patient and reading through all that and I really appreciate any time you spare to respond to my queries.

Regards,
Khaled

 

[Mitchells Bristol]

Hello there

I agree with some, but not all, of your accountant's assertions.

However, regardless of this, you are faced with the standard problem when acquiring a business, being that in the large majority of cases:

• the seller wants to sell the shares to get a 10% tax rate on disposal;
• the buyer wants to buy trade and assets in order to get tax relief on some or all of the acquisition price paid.

The best solution to this is negotiation over price. e.g. if the seller insists on selling the shares, then you need to agree a price that reflects the tax implications for both parties (this may mean a reduction in the price you pay him).

There are other options - but all of which will involve the seller paying more than 10% tax!

 

[Khaled.A]

Hello there

I agree with some, but not all, of your accountant's assertions.

However, regardless of this, you are faced with the standard problem when acquiring a business, being that in the large majority of cases:

• the seller wants to sell the shares to get a 10% tax rate on disposal;
• the buyer wants to buy trade and assets in order to get tax relief on some or all of the acquisition price paid.

The best solution to this is negotiation over price. e.g. if the seller insists on selling the shares, then you need to agree a price that reflects the tax implications for both parties (this may mean a reduction in the price you pay him).

There are other options - but all of which will involve the seller paying more than 10% tax!

Hi Taxonomy,

Thank you for your reply. At this stage, there has been no valuation done on the shares so I'm not even sure if the figure being asked for is relevant.

Can compensations in price paid be made even in the face of a valuation? Basically will the seller not HAVE to sell at the valuation price?

Additionally, I'd like to know what you don't agree with my accountant on as this could help me in perhaps asking them different questions as well as help me make the best decision for my business.

Regards

 

[Tom McClelland]

The only valuation that is relevant is a price that you're prepared to pay (with your eyes fully open, in possession of all relevant facts about the business and the opportunity that it represents for you) and the seller is prepared to sell for, provided that such a price exists. No price exists in a vacuum and the T&C of the sale could reasonably vary the price to an enormous extent. For example when selling at a knockdown price the vendor might be very tough about "sold as seen" whereas a high bidder prepared to pay top whack might insist on stringent warranties.

 

[Mitchells Bristol]

Hello there

If you and the buyer are completely unconnected, then the acquisition can take place at whatever price is agreed by you and the buyer. If you are obtaining an "official valuation", then it can be used as a guide, but ultimately the price payable is down to negotiation between the parties involved.

The price will be detemined by many factors depending upon the industry you are working in and what you are buying. Based on a sale price of £500k, there could potentially be a £80k-£100k difference to each of you depending upon whether you buy shares or assets - so you could agree to split the difference and agree to buy shares for a price reduced by, say £50k.....but this is an advanced stage of negotiation!

The main disagreements I have with the information as laid out are:

1) If you buy the shares, ABC would not be liable to tax on all profits. ABC would be liable to tax on ABCs profits and XYZ would be liable to tax on XYZs profits, as is the case now (albeit with a reduction in the corporation tax bands). Unless there is a subsequent hive-up.

2) I don't immediately see why the money would end up sitting in a director loan account on an asset purchase, unless you are buying a director loan account as part of the acquisition cost.

Hope this makes sense.

 

[Khaled.A]

Hi Taxonomy,

Your first point was my mistake; apologies for that. I was told that each company would be liable for it's own tax.

With regards to your second point; if I am paying out to acquire assets on a loan style basis (since company ABC could not purchase XYZ any other way), I would expect this loan to sit in the director's loan account on ABC ... or am I missing something?

What would be the most cost effective way to acquire a company in this scenario? Obviously keeping in mind that the buyer does not want to lose out on his Entrepreneurs' Relief. I'm at wits end trying to think this through for the past 3 weeks.

Regards,

 

[Mitchells Bristol]

With regards to your second point; if I am paying out to acquire assets on a loan style basis (since company ABC could not purchase XYZ any other way), I would expect this loan to sit in the director's loan account on ABC ... or am I missing something?,

OK - I see (I think!). If you are loaning the money to ABC Limited to acquire XYZ then yes this will create a director loan account. However, this will be the case regardless of whether ABC then uses the money so loaned to buy shares or assets in XYZ.

What would be the most cost effective way to acquire a company in this scenario? Obviously keeping in mind that the buyer does not want to lose out on his Entrepreneurs' Relief. I'm at wits end trying to think this through for the past 3 weeks.
,

The answer to this will be "it depends" from everyone who isn't your accountant (being someone who knows your business inside out and also presumably knows something about the target company). It depends on so many factors as already mentioned that you won't find a definitive answer on a forum I'm afraid.

 

[TimCaprica]

Hi Khaled,

You may want to pay someone to run the numbers for you properly to work out the cheapest way but if you look at it from the point of adding up each others tax bill as a result of the transaction it may be that the 10% entrepreneurs relief will mean that a share deal is the cheapest option. It would then be normal to agree to share the benefit as was said earlier.

Though as I said I don't think you will find anyone on here willing to say x is the cheapest way because it always depends on so much.

You should also consider things other than tax. If you are buying a limited company then you will also be buying all the companies liabilities, which can things not on the balance sheet like any tax mistakes or claims from disgruntled customers / employees. This is another reason why people prefer to buy the trade and assets.

 

[Khaled.A]

However, this will be the case regardless of whether ABC then uses the money so loaned to buy shares or assets in XYZ.

So, even if the seller let's be pay back over 5 or even 10 years, the total amount I pay for his company can sit in my director's loan account???

This is my bone of contention really which is why I was even considering an asset buy. So the only problem would be is that I would be corp taxed on all profits PRIOR to me being able to pay back the previous owner of the company???

Regards

 

[TimCaprica]

I might not be helping by jumping in here but surely the loan account is no different whether it's a ltd company deal or a trade and asset deal. You still have to pay what you have to pay, which will involve initially owing £500k to the vendor.

In terms of having to pay tax on the profits. Although you haven't paid for the company 100% yet you will own the company 100% from day one and have a right to the profits. Therefore you will have to pay corporation tax on those profits, which seems fair enough. Again that will be the same however the transaction is structured.

 

[Mitchells Bristol]

The money will only sit in your director loan account if you put it there. It isn't a notional figure and won't arise on acquisition unless it comes as part of the purchase deal (which is unlikely).

From what you are saying, it sounds as though ABC Limited does not have funds to buy XYZ. So you presumably are either funding this out of your own savings or borrowing the money from somewhere.

You then have the option of either putting those savings or borrowed money into ABC, and ABC acquiring XYZ, or you can buy XYZ directly (another point of discussion - which is best....). If you borrow £500k personally and put this into ABC, then ABC will show a director loan of £500k owing back to you, which presumably you will then need to draw down monthly in order to repay the loan.

I wouldn't get too hung up on the director loan account point at the moment. I'm not sure it is a relevant consideration and there are certainly more pressing issues to address first.

Regarding your second point - yes, you would be liable to all corporation tax, but at the same time you will be entitled to all profits and so are rightfully liable to the tax thereon. Your aim will be to structure a deferred consideration deal so that you can pay the vendor over a period of years, out of XYZ'z post-tax profits.

Presumably you have made an approach for the target company already - and he has come back and asked for £500k, and he will only sell as a share sale? What has he said about spreading the payments?

 

[Khaled.A]

I might not be helping by jumping in here but surely the loan account is no different whether it's a ltd company deal or a trade and asset deal. You still have to pay what you have to pay, which will involve initially owing £500k to the vendor.

In terms of having to pay tax on the profits. Although you haven't paid for the company 100% yet you will own the company 100% from day one and have a right to the profits. Therefore you will have to pay corporation tax on those profits, which seems fair enough. Again that will be the same however the transaction is structured.

Hi Tim,

I have no issues with paying the tax on profits at all; I am simply trying to evaluate if that is the ONLY tax I will pay on profits.

Basically, my question is:
I have £50K profits, I get corp taxed (this is fair enough)
I now use say £25K to pay the previous owner ... how is this treated? Does it get treated as a dividend or wage and get taxed again?

 

[Mitchells Bristol]

Again, trying to keep the numbers simple. If you have pre-tax profits of £50k, tax of £10k, profits remaining of £40k. ABC can use this £40k (if it still has it) to make a payment to the vendor. There is no tax implication of this - it is a straight payment from ABC to him for money owed.

 

[TimCaprica]

Assuming that ABC is buying XYZ then the £25k won't get taxed again.

If you personally are buying XYZ then you would incur income tax when taking the money out of ABC but I don't think that is what is happening (it certainly wouldn't be the best way of doing it).

 

[Khaled.A]

The money will only sit in your director loan account if you put it there. It isn't a notional figure and won't arise on acquisition unless it comes as part of the purchase deal (which is unlikely).

From what you are saying, it sounds as though ABC Limited does not have funds to buy XYZ. So you presumably are either funding this out of your own savings or borrowing the money from somewhere.

You then have the option of either putting those savings or borrowed money into ABC, and ABC acquiring XYZ, or you can buy XYZ directly (another point of discussion - which is best....). If you borrow £500k personally and put this into ABC, then ABC will show a director loan of £500k owing back to you, which presumably you will then need to draw down monthly in order to repay the loan.

I wouldn't get too hung up on the director loan account point at the moment. I'm not sure it is a relevant consideration and there are certainly more pressing issues to address first.

Regarding your second point - yes, you would be liable to all corporation tax, but at the same time you will be entitled to all profits and so are rightfully liable to the tax thereon. Your aim will be to structure a deferred consideration deal so that you can pay the vendor over a period of years, out of XYZ'z post-tax profits.

Presumably you have made an approach for the target company already - and he has come back and asked for £500k, and he will only sell as a share sale? What has he said about spreading the payments?

You are correct, ABC does not have the funds to purchase XYZ (think I mentioned this in one of the posts, not sure). We are not borrowing to make the purchase really. What is happening is that the owner of XYZ is allowing us to pay for the purchase over 5 or 10 years.

I am intimately familiar with the company as is my accountant (we use the same accountant). And yes, an approach has been made and the owner of XYZ is agreeable to payments being spread. He is insisting on a shares deal too, as he does not want to lose out on relief.

 

[TimCaprica]

I think that is where we got confused. Calling it a Directors loan is probably not right. ABC will owe the vendor £500k. It's a loan but not one to a Director and as Taxonomy said there will be no tax at all on paying this off (but it won't be an expense either). If you know about double entry it will be:

Dr Loan to XZY vendor
Cr Cash

This £500k loan will exist whether shares or assets.

The only difference is whether on your balance sheet you have various assets and goodwill totalling £500k or an investment in a subsidiary of £500k and this is where your tax benefit comes in if you go for the assets deal. The share investment will remain £500k. Whereas tax relief can be claimed on the assets (the goodwill will reduce every year like depreciation giving you a tax deductible expense). Hope I haven't got too technical there.

 

[Khaled.A]

Again, trying to keep the numbers simple. If you have pre-tax profits of £50k, tax of £10k, profits remaining of £40k. ABC can use this £40k (if it still has it) to make a payment to the vendor. There is no tax implication of this - it is a straight payment from ABC to him for money owed.

Assuming that ABC is buying XYZ then the £25k won't get taxed again.

If you personally are buying XYZ then you would incur income tax when taking the money out of ABC but I don't think that is what is happening (it certainly wouldn't be the best way of doing it).

Brilliant! I was under the impression that the payment I made to the previous owner of XYZ would be treated as a dividend or wage and I'd be taxed income tax on it too!!

I am not personally buying the company, ABC is buying the company. Wow!!! 30 minutes on here and I've got the answers I have spent the last 3 weeks trying to find!!!

REALLY appreciate the time you guys have spent going over this.

 

[TimCaprica]

No problem.

It's a bit odd your own accountant couldn't explain it!

If you need any help with due diligence do get in touch.

Good luck!

 

[Bob]

I am intimately familiar with the company as is my accountant (we use the same accountant).

Does the accountant have a conflict of interest here :|
Feasibly could be worth your while instructing someone independent to advise you on the deal

 

[Khaled.A]

Does the accountant have a conflict of interest here :|
Feasibly could be worth your while instructing someone independent to advise you on the deal

Don't really see the conflict of interest to be honest. I also know the seller and have done business with them before. Hopefully this can be a smooth transaction but when are things ever easy

 

[Bob]

Don't really see the conflict of interest to be honest. I also know the seller and have done business with them before. Hopefully this can be a smooth transaction but when are things ever easy

Conflict of interest would be if accountant is advising both seller and buyer on the price to be paid and the most efficient basis of effecting the transaction. The interests of the buyer and seller do not always coincide

 

[Khaled.A]

Conflict of interest would be if accountant is advising both seller and buyer on the price to be paid and the most efficient basis of effecting the transaction. The interests of the buyer and seller do not always coincide

I know what it means, I just can't see there being one. I am not taking any advice on price from my accountant. I know what this business makes a year and I know what I am willing to pay for it. Hopefully I can secure it thereabouts