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One director buying another out

Can someone please confirm my understanding?

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We have a client which has 2 directors (equal shareholding) and director A (DA) wants to buy director B (DB) out. The consideration will be a phased payment, but the leaving director is to resign and divest the shares immediately.

As far as I can see, there are 2 options.

1. DA buys the shares – his base cost will obviously increase, but the consideration will effectively be paid from the company (he doesn't have the funds personally), going against his loan account.  He will have to declare dividends to clear the loan, giving him a huge personal tax bill.

2. The shares are cancelled – I think it passes all of the tests for capital treatment, as I believe you can get round the payment issue by DB loaning the balance to the company.  However, it would fail on the 30% rule (think this is debt:share capital rather than debt:reserves).  Therefore, it would be a revenue distribution in the hands of DB, and presumably all at once rather than when the actual payments are made.  So in this case, DB would have the huge personal tax bill.

So unless the company lends the money to pay DB in full, then one of the directors will end up with a big personal tax bill.

Have I got this right?

Replies (12)

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By johngroganjga
19th Jun 2017 08:44

Rather than scaring them by saying tax bills will be "huge", which is a matter of opinion, whereas accountants get more respect if they stick dispassionately to facts, why not do the calculations and then discuss them.

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By rhino83
19th Jun 2017 10:15

If I'm reading it correctly DB's share holding will decrease from 50% to 0% immediately so why would the 30% test fail.

Also without any figures its hard to say, but if the company has sufficient cash there is nothing wrong with leaving the amount outstanding on the directors loan account and charging 3% interest a year. Granted there will be a S.455 liability but the company will get that back eventually.

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Replying to rhino83:
By Ruddles
19th Jun 2017 10:24

I suggest that you read up about the 30% test.

Why charge interest at 3%?

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Replying to Ruddles:
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By rhino83
19th Jun 2017 12:22

CTA 1062 : (2)A person is connected with a company if the person directly or indirectly possesses, or is entitled to acquire, more than 30% of— (b)the loan capital and the issued share capital of the company,

I admit did read the question and skip the bit in bracket.

If the money is lent to the other director for the purchase then the company would need to charge 3% on the directors loan to avoid a benefit in kind arising.

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Replying to rhino83:
By Ruddles
19th Jun 2017 12:31

rhino83 wrote:

If the money is lent to the other director for the purchase then the company would need to charge 3% on the directors loan to avoid a benefit in kind arising.

No it wouldn't
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Replying to Ruddles:
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By rhino83
19th Jun 2017 12:59

My understanding is that if the directors loan exceeds £10,000 then the company would need to charge interest at HMRC's official rate of interest of 3% (or 2.5% from April) to avoid a benefit-in-kind and the need to prepare a p11d.

Am I not correct? I am now concerned I have being doing something wrong

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By Portia Nina Levin
19th Jun 2017 13:09

There's no benefit in kind if the interest would qualify for tax relief. Interest on a loan to purchase shares in a close company qualifies for tax relief.

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Replying to Portia Nina Levin:
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By rhino83
19th Jun 2017 13:29

Thanks for your reply, I may have overlooked that point

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By Ruddles
19th Jun 2017 10:52

There may be another solution to the phased payment, instead of lending the balance back to the company - depending on whether you're in Scotland or England/Wales.

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By Portia Nina Levin
19th Jun 2017 13:21

Intrigued? What if it were in Northern Ireland?

There is always another solution.

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Replying to Portia Nina Levin:
By Ruddles
19th Jun 2017 14:21

Don't know about NI. The problem in Scotland is that it is considered to be impossible to separate beneficial ownership from legal title (partly because there is no such thing in Scots law as beneficial ownership). This, according to some commentators at least, makes a tax-efficient multiple completion buyback rather difficult.

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By Richardrussell
19th Jun 2017 12:25

Thanks for the comments. The company is in England.

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