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Convertible shares in a close company

Interest on loan to buy same

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A loan is taken out to buy shares in a close company. The shares carry a right to a dividend at a fixed rate but no other right to share in the company's profits. There is a right, exercisable periodically, to convert a proportion of the shares held to ordinary shares. Is interest allowable (under s383) from the off, allowable from conversion or never allowable?

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11th Jan 2019 15:44

I'd say never reading S392. Loan's not been applied to "acquiring any part of the ordinary share capital of a close company".

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11th Jan 2019 16:09

Have a look at https://www.accountingweb.co.uk/tax/business-tax/how-to-recognise-an-ord....

Arguably the conversion right is "a right" to participate in future profits. If that is correct, the shares. are part of the "ordinary share capital

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By CTA
11th Jan 2019 16:24

My initial view is that that interest is not allowable. To paraphrase s.392, the loan to the individual must be used to acquire any part of the ordinary share capital of a close company that is not a close investment-holding company.

At the time the loan is used to acquire shares (an historic, matter of fact test) those shares are not ordinary.

Who holds the right to convert the shares to ordinary shares - the Company, shareholder, or both?

If the right of conversion rested with the shareholder, and the Company had no power to prevent that exercise, I may be tempted to argue the shares are quasi-ordinary on acquisition, such that interest were allowable.

Only an opinion, however. I’m sure a greater mind will prove me wrong!

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11th Jan 2019 17:42

Thanks for the responses.

There are plenty of situations where a share- or option-holder may have future rights attributed to present ownership. (Your close company definition of control may be the one we see most often.)

But I find it hard, in the present case, to argue myself away from the first two paragraphs in CTA's answer.

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14th Jan 2019 17:25

A further thought. What are the rights of the convertible preference shares on a winding up? If they are entitled to participate in any surplus at that time, they would technically be part of the"ordinary share capital".

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to Montrose
14th Jan 2019 18:54

The convertible shares don't have any rights to capital beyond that originally subscribed. I checked that at the time... but I didn't pause to wonder whether that is a forward-looking test... if we are required to look forward to a possible winding-up, are we required to take into account the right to conversion that might have happened beforehand?

I think I thought that the test posits a notional winding up at the date of the test. If that's right, I still feel bound to CTA's starting position.

But it's a good thought. Thank you Montrose - you might have (I hope you have) found the flaw in my initial logic.

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By Waves
to Tax Dragon
14th Jan 2019 19:25

Has the definition of OSC been amended generally (i.e. for the purpose of your question) following the recent Budget amendments? I thought those changes only applied for ER purposes?

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to Waves
15th Jan 2019 09:33

The paraphrase in my OP was of the definition in ITA s989. Turning back (inspired by Montrose's comment) to that definition, the question is whether the shares “have no other right to share in the company's profits”. “Have” is present tense. I think there’s no relief.

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