Can ISAs hold differential shares?by
A recent storm in a teacup about the ability to hold differential shares in ISAs might sound arcane, but it may have practical consequences for some investors.
For the most part, interest in the topic of differential shares in ISAs has been largely limited to those working in obscure departments at banks and investment houses, who presumably believed that they could increase their profits by expanding the scope of investments in stocks and shares ISAs.
A 'simple' answer?
However, as an argument began to rage across the financial mediascape regarding the legal position on including fractional shares in ISAs, HMRC 'helpfully' issued a definitive answer by way of a tax-free savings newsletter published on 9 October 2023. However, rather than closing the debate as it might have hoped, this has caused even greater controversy.
The Department’s view is simple. “A fraction of a share is not a share and therefore cannot be held in ISAs.” Game over you might think – not at all.
Many of the great and the good disagree with HMRC’s interpretation of the consolidated version of The Individual Savings Account Regulations 1998 (SI 1998 No. 1870).
More recently, legal guru and arch disruptor Dan Neidle has since set out his own stall, believing with unresolved reservations that HMRC is probably wrong. His name will provoke an instant response from many readers, since Mr Neidle has joined Jolyon Maugham and Richard Murphy as either a latter-day Robin Hood or Sheriff of Nottingham depending on their personal viewpoint.
AccountingWEB subscribers who are interested in the technicalities might be very grateful to the Guru for his detailed analysis, which is long and very worthy, but frankly a little dull – not through any fault of his own however.
The heart of the issue
In simple terms, fractional shares are what they sound like. Rather than owning a share in a company, individuals own fractions of one or more shares. In the context of ISAs, this might initially sound like a fuss over nothing until you consider a practical example.
Many regard Warren Buffett as the greatest investor of our time. In consequence, there is a large swathe of corporate investors who have been only too happy to get on the bandwagon and invest in his Berkshire Hathaway Inc corporation.This is where the problem arises. If you wanted to buy a single Berkshire Hathaway “A” share, you would need to fork out an eye watering $517,825 at the time of writing.
Even those who do not closely follow the sterling/dollar exchange rate will realise that this is far in excess of the annual ISA investment limit of £20,000.
The obvious workaround is to invest either individually or collectively in a fraction of a Berkshire Hathaway “A” share for their ISA.
That brings us back to the question of whether such an investment is legal or not. Since HMRC has published its own view, only brave or foolhardy investors would want to take a chance on including fractional shares in their ISA in the knowledge that this would be open to challenge, should HMRC have the resources to look into the matter; rather unlikely but…
On the other hand, there will almost certainly be a queue of KCs lining up to provide plausible legal opinions that point in the opposite direction.
This presents a problem for practitioners. First, should they actively seek out information as to whether any clients with stocks and shares ISAs might have fractional holdings?
Secondly, even if they don’t go that far if a client informs them of the fact, they must decide whether to take a prudent view and recommend that no exemption be claimed or the more challenging but potentially correct position that HMRC is incorrect, citing analysis from Dan Neidle or other experts.
In the longer term, either by agreement with a party that is happy to take an agreed test case or by way of dispute, HMRC might seek to settle the matter via the courts.
The debate rages on
There is every chance that highly technical debate on this obscure and badly worded legislation could go beyond the First Tier Tribunal, the Upper Tribunal and even the Court of Appeal all the way to the Supreme Court. Given the backlogs in the courts at the moment that might mean investors facing uncertainty regarding their entitlement to tax relief on the fractional shares in question until some time late in the current decade.
There is a much better way of resolving the issue, which might even make Jeremy Hunt into a mini-Robin Hood. That would be for the Treasury to insert three words into the current regulations. Those three words are “and fractional shares”. He could of course go the other way and replace “and” with “not”.
In reality, either way there would probably need to be further consequential amendments but the principle of clarity is good and would remove an unnecessary headache once and for all.