Company purchase of own shares

Company purchase of own shares

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Scenario:

2 shareholder/directors. 1,000 £1 shares in issue, 500 each. Close company (obviously!) but shareholders are not otherwise connected.

Shareholder B wants to retire and an amount is agreed (in this particular case the amount agreed appears to be by reference to what is needed to clear his loan account rather than a formal valuation. FYI, it's a professional firm where one would assume a valuation would be similar to an accountancy practice, i.e. a multiple of recurring fees, however there appears to have been no effort to consider this by the previous accountants.)

The suggested route was to undertake a company purchase of own shares (we've not been able to ascertain whether all the relevant 'hoops' have been jumped through regarding paperwork yet...but let's assume for the timebeing that it has!).

We have read every reference we have in the office regarding company own share purchases and they all take the same theme, i.e. the effect on the company and the vendor shareholder. What we are wondering is what the potential impact is on the remaining shareholder.

As a director, had he bought the shares directly from the vendor then this would have been disclosed on form 42. If the transaction had been at undervalue then the 'benefit' would be taxed. In this case he has gone from a 50% shareholder to a 100% shareholder (via the buy-back) and yet I can find no reference to the potential impact on him personally, as his shareholding has presumably just increased in value and he has not paid anything for it personally

One possible reason I've been given could be that the net assets of the company will be reduced by the amount paid to the shareholder and thus reducing the 'value' of the shareholding (not sure about this one) and therefore there's no benefit, however, we believe the value of this professional services firm is unaffected due to the fact that the GRF hasn't changed.

It's a shame that so many texts appear only to address a particular issue from one perspective but as general practitioners we know that this is unrealistic.

Any pointers would be gratefully appreciated.

Padstow

Replies (6)

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By kenmoody
29th Aug 2007 09:45

And actually ...
... I'm not sure it is right that there would have been a tax charge had the remaining shareholder acquired the shares directly at an undervalue. Arguably any such value would not have been received in the capacity of employee but as shareholder. It must be borne in mind that while the shares are employment-related under the definition in section 421B ITEPA, the charge on acquisition is as general earnings under section 62 ITEPA and not as special employment income in respect of any of the charging sections within Part 7. Therefore, the argument that any 'benefit' is not employment related, as a question of fact, may still apply as regards any charge on acquisition.

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By User deleted
30th Aug 2007 14:13

Many thanks Ken and Phil
Ken

With regard to your last post...would Part 7 chapter 3C not apply?

This whole area of employment related securities has been a minefield ever since it came out and almost every course/seminar we've attended has had differing interpretations! We were under the general consensus that if you were an employee or director and owned shares and you received a benefit as a result of owning those shares then that's it...you're caught!

How, for instance, would you complete form 42 for shares bought directly from a retiring co-shareholder/director assuming, as you assert, that there is no taxable benefit?

Many thanks again

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By kenmoody
30th Aug 2007 17:20

Well section 446Q obviously doesn't apply
in the circumstances. I don't think it would apply if the shares had been acquired directly as my understanding is that it's application is like the old section 162 i.e. it only applies to shares acquired partly paid. I'll need to think about that. Normally a charge under Chapter 3C would also be excluded if the restricted securities Chapter 2 applies.

I certainly agree with you that it is very difficult to know where you are with the ERS legislation as it's a dog's breakfast in many ways.

You would fill in form 42 though if the shares had been acquired directly because although any charge on acquisition would be taxable as general earnings, the reporting requirements of Chapter 1 would apply as the shares are clearly, by definition, employment related. I don't think you need to put any values though on the current version of the form except in relation to securities options, so reporting I don't think would be a problem. As it is, there's nothing to report.

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By kenmoody
28th Aug 2007 15:06

You are quite right ...
... that if the shares had been acquired directly at an undervalue, the amount of the undervalue would have been taxable as employment income.

As it is, there can only be an income tax charge if an amount falls to be taxable under the employment-related securities provisions in Part 7 of ITEPA. As far as I can see, only Chapter 4 would be in point, which taxes post-acquisition benefits and is sufficiently widely drawn to catch the increase in value of the shares as a result of the retirement of B. However, there is a get-out for employee-controlled companies -see section 449(2). So it seems that there is no income tax charge in this case.

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By AnonymousUser
28th Aug 2007 15:44

Benefit of the trade

The repurchase must be shown to be for the benefit of the trade. If that test is satisfied then the benefit to the continuing shareholder is incidental.

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By kenmoody
03rd Sep 2007 11:06

This is actually quite an interesting point ...
... although we are digressing from the original query.

I now think Chapter 3C might, in principle, apply if the shares were acquired directly. It's important to recognise that any charge on acquisition would not be under Part 7 (unless an election under s431 were made). There's no argument under Part 7 as to whether shares are, in fact, acquired by reason of employment because they are deemed to be anyway. As Part 7 does not apply to the charge on acquisition, the argument that the shares are not acquired by reason of employment may still apply. However, that does pose a problem in relation to Chapter 3C, which is a sort of mopping up Chapter and is dissapplied where any of the other chapters do or where there the MV is taxable as earnings. So that in the normal case of an employee acquiring shares below MV, there will be a charge under s62 as general earnings, which will exclude Chapter 3C. If there is no charge on acquisition because you are able to argue that shares are not acquired by reason of employment, there is nothing to take you out of Chapter 3C unless the get-out for employee controlled companies applies, but for Chapter 3C that only applies where all the in the company shares are acquired for less than MV, which wouldn't help in this case.

Of course, people don't usually sell-out cheap unless they are desperate or because they actually intend some bounty, which makes me wonder if in those circumstances s421B(3) would apply. This is the get out for shares acquired in the normal course of personal/family relationships. The obvious example would be passing down shares to the next generation. At first sight I would have thought that if there is consideration, the transfer cannot be in the normal course of family/personal relationships but on reflection I think s421 is neutral on that. It refers to a right or opportunity being made available in the normal course etc, which doesn't seem to necessarily mean a gift. So if father were to say to son, 'I want to get out of the business and will sell you my shares for 50% of what they are worth', that is surely a right or opportunity made available in the normal course of family relationships as he wouldn't be making the same offer to a third party.

So, if it were the case that a couple of guys had worked together for many years and one wanted out but was prepared to sell for less than MV, it may well be that s421B(3) would apply. HMRC guidance gives one or two examples of such circumstances but as I recall no consideration was involved. If s421B(3) did apply of course, the acquisition would be outwith Part 7 altogether, which would be great except that there is always the possibilty that HMRC won't agree, though if the acquisition were unreported in the first place the chances are it will never be picked up.

As In said, you never really know where you are with this legislation!

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