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Goodwill and Intangibles: The Rules
The tax rules on this topic have changed
considerably in recent years. The following is a brief summary of the current
position but specialist advice should be taken in relation to the circumstances
of a specific case before taking any action based on these notes.
Companies:
What kinds of assets are covered?
The legislation refers to 'intangible fixed
assets'. These include the following:
- Any patent, trade mark, registered design
right or copyright
- Agricultural and fishing quotas
- Plant breeders' rights
- Other information or technique which have
industrial, commercial or other economic value
- Licences or other rights relating to the above
- Goodwill
Certain assets are specifically excluded, for
instance:
- Films and sound recordings
- Computer software, if the expenditure is
treated as part of the cost of the relevant hardware
- Oil and gas licences
If expenditure on computer software is not
'caught' by the exclusion mentioned above, a company may claim relief under the
rules described below or alternatively elect for the capital allowances
treatment, which may be more beneficial.
Accounting Background:
The tax treatment for companies has regard to the
accounting treatment. There are three main standards in this connection. These
are Financial Reporting Standard 10 (FRS 10) on Goodwill and Intangible Assets,
FRS 11 on Impairment of Fixed Assets and Goodwill, and International Financial
Reporting Standard 3 (IFRS 3) on business combinations.
In very broad terms, IFRS 3 must be adopted by companies which are listed on a EU regulated Market for accounting periods beginning on or after 1 January 2005. Other companies may adopt IFRS 3 if they wish.
Under IFRS 3, if a business is acquired it is
necessary to record all separately identifiable intangibles. Many assets which
would previously have been treated as part of goodwill must now be identified
and valued separately. Valuing these assets can be a complex matter in many
cases and will often require specialist advice.
Annual 'impairment testing' is now required for
intangibles, and the resulting accounting profit or loss will be recognised for
tax purposes. Alternatively, for tax purposes only, the taxpayer may elect
(within tight time limits) to claim 4% straight-line writing-down allowances on
expenditure incurred.
It should be noted that it is not normally
possible to claim tax relief on internally-generated goodwill etc.
Under FRS 10 and FRS 11, the 'amortisation' basis
normally applies for accounting purposes ie the asset is amortised over its
useful life. If it has an indefinite useful life, it is subject to annual
impairment testing, but the 'indefinite life' criteria are hard to meet and few
assets qualify as such. In relation to expenditure incurred after 31 March 2002,
the tax treatment follows the accounting treatment (subject to some transitional
rules).
It should be noted that internally-generated
intangibles cannot normally be capitalised. The company can elect to ignore the
accounting position and to claim a 4% writing-down allowance instead (as
referred to earlier) on acquired intangibles, but not on self-generated
items.
Transitional rules:
There are some complex provisions for dealing with the transition to FRS 10 and
FRS 11 treatment as well as the transition to IFRS 3, including the interaction
with the capital gains rules for intangibles in existence at 1 April 2002.
Individuals and Partnerships
The above rules apply only to companies. The
official reason for this is that individuals qualify for Capital Gains Tax Taper
Relief on disposal of assets of this kind, and this can reduce their tax
liabilities significantly (but not until a disposal occurs). Outside a company,
there is normally no ongoing tax relief for goodwill and other intangibles.
Tax Planning
- If a businessperson is setting up from scratch
by buying goodwill from a third party he/she needs to consider carefully
whether it would be better to operate via a company.
- As a general principle, there may be
advantages in the corporate framework if the asset is likely to be held for
many years, as ongoing tax relief could flow within the company (see above)
but not outside the company. However, if the individual is likely to 'sell
up' after a few years, then the unincorporated approach may be better
because of the Capital Gains Tax advantages. (Non-tax considerations must
also be weighed up).
It should be borne in mind that stamp duty is not
payable on the acquisition of goodwill or intellectual property. It is therefore
important to ensure, when buying a business, that the correct amount is
allocated to assets of that kind in the sale contract. This can be a particularly difficult matter, since the Stamp Taxes Office is currently arguing that any element of goodwill which refers solely to the business premises relates to land and does not qualify for the exemption.
Disclaimer
These notes are not intended to be exhaustive and
should not be regarded as such. It is important to obtain specialist advice in
relation to the precise circumstances of each specific case.
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