Since last year’s Budget, an increasing number of entrepreneurs have drawn up plans to sell their businesses as they navigate changes to national insurance and inheritance tax (IHT), advisers say.
But how they do so requires careful planning. Sales to employee ownership trusts (EOTs), a vehicle set up in 2014 — and similar to the John Lewis-ownership model — are the fastest growing of the four main options under consideration, as small business owners navigate tax changes that will make it more difficult for them to pass on companies to family members.
From April 2026 onwards, business assets worth more than £1mn will be taxed at a marginal rate of 20 per cent because of changes to IHT relief.
Shares in unlisted businesses, which previously qualified for up to 100 per cent in IHT breaks, will now only receive 50 per cent relief.
Tax advisers say that changes to non-dom rules have incentivised business sales further. Under the new “residence” regime, those who leave the UK will not incur IHT provided they live overseas for more than 10 years.
“The chancellor has set a fire alight with these inheritance tax changes,” says Chris Etherington, a private client partner at accounting firm RSM who has seen a spike in inquiries about selling following the Budget.
Is an EOT right for you?
There are four “key routes” for those who want to sell their small businesses, says Matthew Emms, a partner at accounting firm BDO: a trade deal with a third party, a sale to private equity (PE), a management buyout (MBO) or an EOT.
Of those, Emms says that EOTs are “the fastest growing exit mechanism for shareholders”.
Owners can avoid capital gains tax — raised for higher-rate taxpayers from 20 to 24 per cent in the Budget — by selling more than half of their business into a trust that has the company’s employees as its beneficiaries. The trust usually pays the founders an initial lump sum upfront and returns the remainder in instalments taken from the company’s profits.
If the business fails or is sold within a “clawback” period of four years after the sale, the tax exemption is lost and the relief must be paid back.
Are there any other drawbacks?
EOTs have grown in popularity, but they require a motivated workforce to succeed, says Emms.
“The business won’t be able to pay you all of the proceeds on day one. So if it isn’t fit to run without you and there aren’t employees around who are engaged and able to run it, the company might fall over and you’ll never see the deferred payments,” says Rob Goodley, a corporate tax adviser and partner at accountancy firm Blick Rothenberg.
Martin Cooper, a partner at RSM who has overseen about 50 EOT deals, says that businesses needing to hold on to cash to grow or stay afloat are less suited to EOTs.
According to the Employee Ownership Association, just over 90 per cent of the 2,037 employee-owned businesses in the UK are EOTs, spanning professional services, manufacturing, retail and wholesale trade, construction and communications.
Goodley warns that the EOT should be the “end state for the business in terms of ownership” — because a subsequent sale results in a “horrendous tax outcome” for employees.
The sale incurs capital gains tax and employees must pay both income tax and national insurance on the proceeds they receive. “It ends up being well over 50 per cent in tax for most people,” says Goodley.
While staff might not “care too much” given that the sale would provide a “windfall” they would not have received otherwise, the EOT’s trustees would face a far tougher decision.
Trustees would have to weigh the proposed sale against future profits that employees might earn from the business and “would need to be confident that the buyer wouldn’t be looking at redundancies”.
“It would be difficult in practice for the trustees of an EOT to conclude that selling the business is in the interests of the employees,” says Goodley.
What are the other options?
Some managers will demand a management buyout because it rewards them with a greater share of the business, says Cooper.
“Sometimes it’s better to go with that and keep them on board rather than lose them and have the company go bust,” he says. “My one key message with EOTs is to think about the different groups that will be affected: shareholders, employees and senior management. It needs to work for all of them in the long term to be a success.”
A management buyout, in which members of a company’s management team purchase the business from its owners, is an alternative that, together with trade deals and PE buyouts, give founders the full payment upfront.
But MBOs can be less attractive than employee ownership trusts, Emms says, because they do not confer the same tax breaks and can saddle managers with debt.
“The issue when you compare a management buyout with an employee ownership trust is it does require the management team to have the resources to be able to buy out the former shareholders.
“If they don’t have that money, they would need to take on debt and potentially give personal guarantees. They may be reluctant to do that on top of their existing mortgages and liabilities,” he says.
Trade deals, where the company is sold to a third party, have “historically been the most common exit” for owners and often bring in cash and expertise in the form of a buyer from the same industry, says Liz Barton, partner and head of corporate at law firm Doyle Clayton.
They allow sellers to “walk away” entirely from the business — unlike many private equity deals, adds Helen Coward, tax partner at Simmons & Simmons.
“Most of the time in PE transactions, the seller will remain involved,” says Coward, noting that this can be a boon to entrepreneurs who want to continue having a say in how their business is run.
Goodley says he is telling clients to consider their options but to wait before selling, given that the new IHT rules only come into effect in 2026. “We’ve got this period now where nothing’s really changing, so I’m saying don’t do anything hasty.”
Read the full article here