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ER - scope of ‘equity holders’

ER change in definition of personal company

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I see the 5% test has been extended to “the profits  available  for distribution to  the  equity holders  of the company” (as well as assets on a winding up).

Both make reference to ‘equity holders’ it would seem this includes non-cumulative preference shares according to HMRC’s recently published view (more like equity than debt). So even if a shareholder’s ordinary shares are not diluted to below 5% by nominal value due to the existence of such shares, ER could be scuppered due to the dividend rights.

For example if one shareholder holds 10% non-voting non-cum preference shares and there are 20 other ordinary shareholders, no one gets ER as each ordinary shareholder would be entitled to 90%/20 in dividends. This assumes the preference dividends have to be paid first - I’ve recently seen a set of Articles that say a dividend can be paid on one class but not on others (both ordinary and preference shares are in existence). I’m not sure how you are supposed to sort this one out!

Just some initial thoughts. Please feel free to comment!

 

 

Replies (19)

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By dropoutguy
30th Oct 2018 12:20

Another one. There are Ordinary shares in existence and Ordinary A and B shares. Articles say the surplus on winding up is applied first in repaying the nominal of the Ordinary A and B. So an Ordinary shareholder with over 5% could get less on a winding up where the surplus is less than the aggregate nominal capital. Is this now a problem?

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Replying to dropoutguy:
By Ruddles
30th Oct 2018 12:53

It might be - we'll need to wait and see what the legislation says.

Similar considerations will apply with other types of deferred shares, eg B shareholders are entitled to share of net assets only to the extent that the net assets exceed £1m.

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Replying to Ruddles:
Galaxian
By Galaxian
30th Oct 2018 13:06

The draft legislation was published yesterday - see S169S.: https://assets.publishing.service.gov.uk/government/uploads/system/uploa...

It seems that the meaning of 'equity holders' is a matter of interpretation. Not encouraging when one looks at HMRC's views here:

https://www.tax.org.uk/sites/default/files/180918_OSC%20Aide%20Memoire%2...

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Replying to Galaxian:
Portia profile image
By Portia Nina Levin
30th Oct 2018 13:35

Your second link deals with what is and isn't ordinary share capital. Given that the legislation first requires the individual to hold 5% of the ordinary share capital, and then be entitled to receive 5% of the profits available to distribution to the equity shareholders on a distribution/winding up, it seems implicit that the term equity shareholders is wider than simply persons that hold ordinary shares, in any event.

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Replying to Portia Nina Levin:
Galaxian
By Galaxian
30th Oct 2018 13:56

I provided the second link merely to demonstrate that certain preference shares are 'ordinary shares' (in HMRC's opinion). They make reference to them being more like equity than debt so potentially count for all the 5% tests.

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Galaxian
By Galaxian
30th Oct 2018 16:02

And what about ordinary alphabet shares?

What if only the A shares are paid a dividend (e.g. the full amount of the distributable reserves)? Are the B shares still 'beneficially entitled' to 5%? Presumably, it is sufficient that they could have been paid a dividend?

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Replying to Galaxian:
By Ruddles
30th Oct 2018 16:04

Who knows? If the Articles and other capital documents filed at CH say that the shares have full dividend entitlement then I would say that the shareholders are entitled to dividends. However, I can envisage the scenario of an Inspector arguing (successfully or not, who knows) that if dividends have never, ever, been declared on a class of shares then they are effectively non-dividend shares. The counter to that of course is that the test is simply whether the shareholders are entitled to a dividend at any given point in time - and if the Articles etc say that they are ...

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By Ruddles
30th Oct 2018 20:19

I wonder if any action will be taken to block the obvious ‘solution’ - EMI

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Galaxian
By Galaxian
01st Nov 2018 11:00

Ouch - 'equity holders' is defined in S158 CTA 2010 and includes loan creditors other than normal commercial loans.

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Replying to Galaxian:
By Ruddles
01st Nov 2018 12:12

Your point being?

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Replying to Ruddles:
Galaxian
By Galaxian
01st Nov 2018 17:13

Would the ordinary shares be beneficially entitled, on a winding up of the company, to at least 5% of the assets of the company available for distribution to the ordinary shareholders and certain loan creditors?

Let's assume the net assets per the company accounts are £1m after the deduction of offending loan creditors of £9m and there are four equal ordinary shareholders.

In tax terms is the balance sheet effectively restated at net assets £10m and £10m equity (£9m + £1m), resulting in a loss of ER as the sharing ratio would be 90%/2.5%/2.5%/2.5%/2.5%?

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Galaxian
By Galaxian
01st Nov 2018 17:17

On ordinary alphabet shares, a HMRC Tax Policy Advisor has stated that the new 'distributable profits' test does not look at the actual amounts distributed, but rather the beneficial entitlement. If therefore each class of share ranks the same, the fact that different dividends could be voted does not change the position that the beneficial entitlement to the profits available is equal.

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Replying to Galaxian:
By Alastair Johnston
02nd Nov 2018 15:10

Eh? Surely if each class ranks the same w.r.t. dividends, the y must have the same dividends voted on them.

I can see that if two classes do rank pari passu, they don't cause an ER problem. But in the absence of any express provision in the Articles (or maybe a Shareholders' Agreement), neither class has an entitlement to any share of distributable profits, and neither qualifies for ER, irrespective of the dividend history.

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Replying to Alastair Johnston:
By Ruddles
02nd Nov 2018 15:39

I see that one bug on A Web - the ability to post nonsense - wasn't fixed in the recent update.

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Replying to Alastair Johnston:
Portia profile image
By Portia Nina Levin
02nd Nov 2018 16:09

I don't agree that they are not entitled to a dividend, it is simply that the extent of their entitlement IRL is dependent on what rates of dividend the directors choose to declare.

No class is any less (or more) entitled to a dividend than the other though, as a matter of law. I think that that is the point.

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Replying to Portia Nina Levin:
By Ruddles
02nd Nov 2018 16:32

Agreed. Otherwise we'd find ourselves in the nonsensical situation whereby the shareholders of a trading company with a single class of ordinary share with full rights of all descriptions are to be denied ER because they're not entitled to any dividends unless and until the directors decide to declare one.

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Replying to Ruddles:
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By Brian Gooch
05th Nov 2018 11:25

In that scenario all shareholders would be entitled to share in any dividend declared - the starting position has to be on the premise that a dividend IS declared, otherwise as you say ordinary shares could never qualify.

In the alphabet shares scenario, the issue is that when a dividend is declared no shareholder has an actual entitlement to share in it - a dividend could be paid on just the A shares (for example), with none for the B or C shareholders.

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Replying to Portia Nina Levin:
By Alastair Johnston
05th Nov 2018 13:20

Portia, I agree that no class is more entitled to a dividend than any other, but I don't think that answers the question. Obviously no Ordinary share is entitled to a dividend until a dividend is declared. But as soon as one is declared, we have to ask if any class of shares can guarantee getting any of it. And in general the answer is going to be no, where you have two or more classes. In the absence of some express provision to the contrary, different one class could get no dividend, and therein lies the ER problem.

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Replying to Alastair Johnston:
By Ruddles
05th Nov 2018 15:02

The legislation doesn't refer to entitlement to dividends, it refers to entitlement to share in available profits. In a company with A, B and C shares, all with full rights, somebody must be entitled to those profits - who?

Look at it another way. One shareholder holding 100% of the company's shares is entitled to 100% of the profits, assuming that the Board declares a dividend. Likewise, an A shareholder is entitled to 100% of the profits if a dividend is so declared on that class of share. And so is a B, a C and so on and so on. If 100% of the profits are distributed to A, that does not reduce the entitlement of B, C etc to a share of what is left. Even if what is left is £0. Otherwise, if your entitlement to ER is dependent upon there being available profits to distribute, owners of loss-making companies are going to be rather upset when told that means no ER for them.

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