With upcoming changes to certain tax reliefs (mainly Business Relief for IHT and Business Asset Disposal relief for CGT), many business owners are considering whether to sell their companies, or transfer them to family members as part of a wider family tax plan. People are wondering about valuing a business…

An important part of which, will be to place a value on the business which in this article, we will be looking at the different ways which this can be achieved.

The Basics

HMRC requires valuations to reflect the fair market value (FMV)—the price the business would fetch between a willing buyer and seller in an arm’s-length transaction. Ensuring compliance with HMRC guidelines and proper documentation is critical to avoiding disputes.

1. The Income / Capitalised Earnings Approach

The income approach estimates a business’s value based on its ability to generate earnings or cash flow. The discounted cash flow (DCF) method projects future cash flows and discounts them to present value using a rate reflecting risk and time value.

Alternatively, the capitalised earnings method evaluates historical profits and applies a capitalisation rate to determine the value. This approach works well for established businesses with consistent income streams.

2. The Market Approach

The market approach uses comparisons with similar businesses. Comparable company analysis assesses metrics such as Price-to-Earnings or Revenue Multiples based on publicly available data.

Precedent transactions focus on sale prices of comparable businesses, adjusted for differences in terms, industry, and economic conditions. These methods are particularly useful for businesses operating in competitive sectors with accessible market data.

3. The Asset-Based approach

The asset-based approach calculates the net value of a company’s assets, often used for asset-heavy businesses or where the business is no longer a going concern.

The adjusted net asset method determines the fair market value of all tangible and intangible assets, minus liabilities. In cases of liquidation, the valuation assumes the business’s assets are sold in an orderly or forced manner.

When valuing a business for UK tax purposes, it’s vital to comply with HMRC rules and consider the tax context.

For inheritance tax, FMV is assessed as at the date of death. Accurate documentation is key to being able to demonstrate that the valuation reflects market conditions at the time of death.

Capital gains tax valuations focus on changes in asset value between acquisition and disposal.

Intangible assets, such as trademarks, patents, and goodwill, often significantly affect valuations and require specialised appraisal.

 

Common challenges faced when valuing a business include:

1. Difficulties in forecasting future cash flows.
2. Selecting an appropriate discount or capitalisation rate.
3. Adjusting for non-market assets.

Family-owned businesses or private companies often require bespoke adjustments due to limited market comparables.

It is vital to ensure any valuation is accurate and defendable should HMRC come knocking.

To do this, use multiple methods to cross-check results.

Here at ETC Tax, we are specialists in carrying out business valuations so should this be something you or your clients require, please to get in touch.