Where there are shareholders in an unquoted company who wish to exit the company then there are sometimes certain advantages in the company making a purchase of own shares.
This would especially be the case where the remaining shareholders do not have the resources (without personally borrowing the funds) to acquire the shares from the exiting shareholders (vendors) and the remaining shareholders want to ensure that the shares are not sold to other shareholders who may not be acceptable. The vendors may also benefit from the Capital Gains Tax (CGT) treatment of the shares.
When a company purchases its own shares then the normal tax treatment is for the purchase price to be treated as a distribution – taxable income of the recipient/vendor. The amount subject to income tax is the excess of consideration over the amount subscribed for the shares. The excess is treated as a distribution and taxed as a dividend. This treatment would be more suitable for a basic rate tax payer.
There are exceptions to this treatment which may be advantageous to vendors who would benefit from CGT treatment on the disposal of shares. Capital treatment on the disposal of shares can be obtained for the vendor where an unquoted company purchases its own shares and one of the following conditions are met:
- Condition A - The purchase of own shares is made wholly or mainly for the purposes of benefiting a trade carried on by it or by its 75% subsidiary and does not form part of an arrangement where the main purpose of the transaction is designed to benefit the vendor. There are other conditions for the vendor*.
- Condition B – The whole or substantially the whole of the payment is applied by the person to whom it is made in discharging a liability of that person for inheritance tax charged on a death and is applied that way within two years after the death.
*Other conditions (for vendor) that need to be met in respect of Condition A include:
- Vendor must be resident in UK.
- Vendor must not be connected to the company after the sale – employee considered connected for this purpose if he possesses more than 30% of the ordinary share capital, loan capital or voting power of company.
- The shares owned by the vendor must have been held for a minimum period –a five year period ending with disposal.
Examples of trade benefit test can be found at HMRC SP2/82 HMRC.
HMRC operates a statutory clearance procedure to help clarify the position for companies purchasing their own shares.
There were amendments to the regulations for the Purchase of own shares by an unquoted company which came into force on 30 April 2013. These regulations will not themselves give rise to an employment income tax charge for employees holding shares but certain events facilitated by the regulations may trigger a charge – see HMRC - purchase of own shares - lifting of a restriction on shares, shares not sold at market value, share options and close companies.
There are certain procedures that need to be followed by the company for purchasing own shares the most straight forward of which is from distributable reserves. In the scenario described above there does need to be sufficient profits to make the purchase of shares from reserves.
The shares being purchased must be fully paid up and the shares must be paid for on purchase. There must be some issued shares left in existence after the purchase.
The purchase must be approved by a special resolution which must be filed within 15 days of its passing. The procedures for passing a special resolution must be followed and a copy of the contract or memorandum setting out the terms of special resolution must be made available to the company members.
The person whose shares are being purchased cannot vote on the resolution.
Companies House return form SH03 should be completed and if stamp duty payable on purchase of own shares (if consideration greater than £1,000) then form must be submitted to HMRC for stamping before forwarding to Companies House (within 28 days).
Before making a decision for the company to purchase own shares then it is advisable that further advice is taken as the company situation may not be straight forward and you may be caught by some of the pitfalls in this area.
Please contact us for further advice.
