Incorporation – When does Goodwill apply?

When a sole trader incorporates into a one-person limited company especially where the business is inseparable from the individual, the concept of goodwill becomes complex and often non-transferable. For example, you are a fabulous hairdresser operating a sole trading business, and you’ve uilt up a good clientele who patronise you and only you because of the way you make them look. You then decide to incorporate. How much goodwill passes from your sole trading business to your limited company?

Whist your profits ovr the years may be lush, HMRC may take the view that the goodwill built up is so attached to you, it is difficult to separate it from the business ie if you cease seeing clients on incorporation, can the business continue to exist? If the genuine answer is no, the business goodwill is close to nil.

Essentially, if the reason the business is profitable is based on your personal reputation, relationships, or unique skills, business goodwill is minimal or nil and not readily transferable. If on the other hand, people flock to your business because of the brand name, systems, location or other factor not directly linked to a person, goodwill may be transferable.

To summarise, goodwill is justifiable when the sole trader has a recognisable business name independent of their personal name, maintains a client database or brand that could survive without them, and uses systems or staff that deliver services beyond their personal input.