Tax on Earn-Out Payments: How Each Payment Is Taxed, and When
23 Oct 2026 · Unlocked · 13 min read
A seller who accepts an earn-out can owe capital gains tax on money that has not arrived and may never arrive. HMRC taxes the value of the right to the future payments in the year of sale, then treats each payment as a further disposal of that right (HMRC Shares and Assets Valuation Manual SVM107160, checked 23 October 2026). The tax on earn out payments depends on what the payments buy and when they arrive, and the earn out tax treatment uk sellers face has three tax events:
- Completion: the cash and the value of the earn-out right are taxed in the year of sale.
- Each tranche: a part-disposal of the right, with a further gain or loss.
- The end of the right: a final gain, or a capital loss if the right paid less than its value.
How an Earn-Out Changes the Tax on a Business Sale
An earn-out is part of the price that is deferred and paid only if the business meets targets after completion; How Earn-Outs Work When You Sell Your Business covers how those targets are set. On an earn out business sale, the earn out tax implications differ from a cash sale in two ways: tax can fall due on the right before any payment is made, and a payment that rewards the seller's work after the sale can be taxed as earnings instead of as a gain.
The Core Rule: Tax Is Due on the Right, Not Just the Cash
Where the amount cannot be known at completion, the value of the right to receive the future payments is included in the sale proceeds, following Marson v Marriage and Marren v Ingles (HMRC Capital Gains Manual CG14950, checked 23 October 2026). The overall gain on the shares is worked out as in Capital Gains Tax When You Sell a Limited Company, with the value of the right added to the cash.
Each later payment is a separate occasion of charge, a part-disposal of the right whose cost is the value used at completion (HMRC CG14970, checked 23 October 2026). HMRC's Shares and Assets Valuation team agrees the value of the initial right and of the residual right after each tranche (SVM107160). Form CG34 asks that team to check the completion value, and it must be sent at least three months before the filing date; an agreed value will not be questioned in that return (GOV.UK, "Post transaction valuation checks for Capital Gains (CG34)", checked 23 October 2026). A business valuation calculator estimates what the company is worth, and that is a different figure from the market value of the earn-out right.
Ascertainable vs Unascertainable: Why the Valuation Decides the Timing
The taxation of earnout payments starts with whether the amount is known at completion. A sum fixed in the contract is ascertainable, and TCGA 1992 s48 brings all of it into the gain at completion with no discount for the wait, the risk of non-payment or the payment being contingent (HMRC CG14930, checked 23 October 2026). A fixed sum payable only if a target is met is therefore taxed in full in the year of sale, with a claim available if part later proves permanently irrecoverable (CG14930).
An earn-out calculated from future profits is unascertainable, so the right itself is valued and taxed at completion (CG14950). A high valuation puts more of the gain into the year of sale, where Business Asset Disposal Relief can reach it, and a low one pushes more into later tranches, where no relief applies (SVM107160).
Income or Capital: When HMRC Treats an Earn-Out as Earnings
A seller who stays on after completion risks having the earn out taxed as employment income. HMRC lists six indicators that an earn-out is sale consideration rather than remuneration (Employment Related Securities Manual ERSM110940, checked 23 October 2026):
- The sale agreement shows the earn-out is part of the consideration for the shares.
- Its value reflects the value of the shares given up.
- A seller who stays on is fully paid for that work, so the earn-out is not a top-up to salary.
- It is not conditional on staying employed beyond a reasonable requirement to protect the value of the business sold.
- It contains no personal performance targets.
- Sellers who leave, or never worked in the business, receive it on the same terms as those who stay.
A payment that is partly price and partly reward is apportioned on a just and reasonable basis, and clearance under s138 and s707 counts as evidence the transaction is genuine (ERSM110940). Earnings over £125,140 are taxed at 45% in 2026 to 2027 (GOV.UK, "Income Tax rates and Personal Allowances", checked 23 October 2026), against 24% on a gain. The employment terms worth fixing before signing are covered in Staying On as an Employee After Selling Your Company.
What the Earn-Out Is Paid For: Shares, Assets or Goodwill
The tax character of each payment follows what the earn-out buys. On a share sale the right is consideration for the shares and the gain is the shareholder's. On a trade and asset sale the company is the seller, so goodwill tax business sale questions start with the company's own gain, and HMRC's manual gives the example of a company selling premises for cash plus an unascertainable right (CG14970). Share Sale or Asset Sale: Which Leaves the Seller Better Off? compares the two; the rest of this page assumes a share sale.
BADR and Other Reliefs on Earn-Out Payments
Business Asset Disposal Relief is available only on the initial right, taxed with the initial proceeds, because later payments are disposals of the right and not of a business asset (SVM107160, checked 23 October 2026). The qualifying conditions are in Business Asset Disposal Relief Explained for Company Sellers. The rates behind the earn out tax treatment uk sellers get are:
| Gain or payment | Rate (source, checked 23 October 2026) |
|---|---|
| Initial right with the relief, disposals from 6 April 2026 | 18% (GOV.UK, "Business Asset Disposal Relief") |
| Initial right with the relief, 6 April 2025 to 5 April 2026 | 14% (GOV.UK, "Business Asset Disposal Relief") |
| Relief limit | £1 million of lifetime gains (TCGA 1992 s169N) |
| Gains without the relief, from 6 April 2026 | 18% within the basic rate band, 24% above it, after a £3,000 annual exempt amount (GOV.UK, "Capital Gains Tax rates") |
| Earn-out taxed as earnings, 2026 to 2027 | up to 45% (GOV.UK, "Income Tax rates and Personal Allowances") |
What Happens When the Payment Differs From the Valuation
If a tranche pays more than its share of the right's value, the excess is a further gain in the year received, taxed at that year's rates with no relief (SVM107160). If the right ends having paid less, the seller has a capital loss in that year, and an individual can elect under TCGA 1992 s279A to set it against an earlier year's gain on the shares sold for the right (HMRC CG15080, checked 23 October 2026).
A founder sells a trading company on 1 March 2027 for £1,000,000 in cash plus a two-year profit earn-out valued at £300,000. The shares cost £100 and qualify for the relief with the whole limit unused, the founder's income fills the basic rate band, the annual exempt amount stays at £3,000 and fees are ignored (illustrative assumptions). At completion, in 2026 to 2027:
- Proceeds: £1,000,000 + £300,000 = £1,300,000
- Gain: £1,300,000 − £100 = £1,299,900
- First £1,000,000 with the relief at 18%: £180,000
- Remaining £299,900 − £3,000 = £296,900 at 24%: £71,256
- Tax: £180,000 + £71,256 = £251,256, due 31 January 2028
On 1 March 2028 the buyer pays £250,000 and the remaining right is valued at £150,000:
- Cost used: £300,000 × £250,000 ÷ (£250,000 + £150,000) = £187,500
- Gain: £250,000 − £187,500 = £62,500
- £62,500 − £3,000 = £59,500 at 24%: £14,280, due 31 January 2029
On 1 March 2029 the final £100,000 is paid and the right ends:
- Remaining cost: £300,000 − £187,500 = £112,500
- Loss: £100,000 − £112,500 = £12,500, arising in 2028 to 2029
The earn-out paid £350,000 against a £300,000 valuation, and the £50,000 difference equals the £62,500 gain less the £12,500 loss. Before any use of the loss, the tax is £251,256 + £14,280 = £265,536.
Deferral Routes: Securities, Loan Notes and the s.138A Election
A tax deferred business sale is possible where the earn-out will be satisfied in shares or debentures of the buyer. For rights conferred on or after 10 April 2003, TCGA 1992 s138A treats the right as a security automatically where its conditions are met, so no gain or loss crystallises until the shares or debentures received are disposed of (HMRC CG58005, checked 23 October 2026). Loan notes against cash across the whole deal are compared in How Deal Structure Changes the Tax You Pay on an Exit.
The seller can elect out by written notice, with no prescribed form, by the first anniversary of 31 January following the tax year the right was conferred: 31 January 2029 for a right conferred in 2026 to 2027 (HMRC CG58020, checked 23 October 2026). The election is irrevocable.
For a fixed part of the price paid in instalments over more than 18 months, TCGA 1992 s280 lets the seller ask to pay the tax in instalments, normally 50% of each payment received, ending by the last instalment or eight years after the normal due date (HMRC CG14910, checked 23 October 2026).
Structuring the Deal to Protect the Tax Position
Business sale tax planning on an earn-out happens in the sale agreement, before signing, because the agreement's wording drives the earn out tax implications:
- Wording: state that the earn-out is consideration for the shares, measured on company-level targets.
- Pay: pay continued work through a separate contract at a market salary, with no personal targets in the earn-out.
- Leaving: limit forfeiture on leaving to what protects the value of the business sold.
- Equal terms: give sellers who do not stay on the same earn-out terms (ERSM110940).
Reporting the Gain and Paying the Tax
The business sale tax form is the Self Assessment return, or the real-time Capital Gains Tax service, which UK residents can use for gains in 2025 to 2026 and 2026 to 2027 (GOV.UK, "Report and pay your Capital Gains Tax", checked 23 October 2026). Through the real-time service, a gain is reported by 31 December in the tax year after the gain and paid by 31 January: a 2025 to 2026 gain is reported by 31 December 2026 and paid by 31 January 2027. The taxation of earnout payments spans several tax years, and each tranche year repeats the process because each payment is its own disposal of the right (CG14970).
Frequently Asked Questions
Conclusion: Value the Business Before You Agree the Earn-Out
The tax on earn out payments is worth weighing against what the company is worth today, before any of the price is deferred. Run the company through the business valuation calculator on the business sale page, then take the draft earn-out clause and the six indicators to the adviser before heads of terms are signed.
