insideKENT Magazine Issue 25 - April 2014 | Page 151
BUSINESS
CAN A COMPANY
FUND ITS OWN
SHAREHOLDER’S EXIT?
IN SUCCESSION PLANNING FOR OUR CLIENTS
AND PARTICULARLY FOR OWNER-MANAGED
BUSINESSES, IT IS NOT UNUSUAL TO DISCOVER
THAT DIFFERENT SHAREHOLDERS, WITH THEIR
SEPARATE LIFESTYLES, PERSONALITIES AND
AMBITIONS, OFTEN HAVE DIFFERING
INTENTIONS WHEN IT COMES TO PLANNING
A RETIREMENT FROM THEIR COMPANY.
However, even if the shareholders can agree that one (or more) of their
number should exit leaving the remainder still holding shares in the company,
the practicality of paying an exiting shareholder a market value for their
holding can be problematic. The valuation of the shares essentially
comes down to the amount which one party is willing to pay and the other
is willing to accept, but just agreeing a value does not mean that the
remaining shareholders will have the necessary funds available personally
to buy their business partner out.
The company itself may have sufficient cash or indeed access to funding,
but simply borrowing money from a company in order to buy shares from
a fellow shareholder can carry with it an onerous corporate tax charge. For
an individual to extract the company’s cash as remuneration of course
carries with it a tax cost as well.
THE MAIN CONDITIONS ARE AS FOLLOWS:
Company status – The purchasing company must be either an unquoted
trading company or the unquoted holding company of a trading group.
Purpose of the payment – Unless the share purchase has been undertaken
to meet IHT liabilities, then it must meet the 'trade benefit' test.
No ‘scheme or arrangement' – The purchase of own shares must not
form part of a scheme or arrangement – the main purpose of which is either
to enable the shareholder to participate in the company's profits without
receiving a dividend, or for the avoidance of tax.
Residence – The vendor must be a UK resident and ordinarily resident for
the tax year in which the purchase takes place.
Period of ownership – The shares must generally be owned for a minimum
of five years.
SO WHAT IS THE SOLUTION?
In many circumstances, a very simple solution is a company purchase of
own shares. The purchase can be made from distributable reserves,
provided those reserves are sufficient to cover the amount to be paid. On
purchase, the shares are simply cancelled. The implication of this is that
the percentage shares held by each remaining shareholder is then affected.
For example, if A, B and C hold 50%, 30% and 20% in a company
respectively, and the company then purchases the shares of A; B will own
60% and C 40% of the remaining total shares after the re-purchase. As a
direct result of the re-purchase, B has become the majority shareholder.
There are a number of requirements set out by the Companies Act (2006)
regarding the procedure for a company purchase of own shares which
must be met. For example, the shares being purchased
from the minority shareholder must be fully paid-up shares; the purchase
must be approved by a special resolution, and that resolution must be filed
at Companies’ House within 15 days of its passing. The company’s Articles
no longer need to permit a buy-back; nevertheless, the company must not
have any restriction or prohibition in its Articles.
So, a company purchase of own shares can be useful in solving a funding
problem for remaining shareholders, but can it be tax efficient for the exiting
shareholder as well?
Substantial reduction in shareholding – The vendor shareholder's
remaining interest in the company (if any) must be reduced.
No 'continuing connection' – If the vendor shareholder retains an interest
in the company, he/she cannot have an interest of sufficient size to be
deemed ‘connected’ with the company immediately after the purchase.
Advance clearance is available from HMRC, of which can provide full
assurance for the exiting shareholder that the transaction – based on the
information presented to HMRC – will be subject to capital gains tax and
not income tax.
Regardless of whether or not advance clearance is sought, the transaction
must be reported to HMRC within 60 days of the buy-back.
It is worth ending with one final reminder: that one of the conditions for
entitlement to entrepreneurs’ relief with its very beneficial rate of tax, is that
the vendor must be an employee or office holder of the company for the
12 months leading up to the date of sale. It is therefore imperative that the
exiting shareholder does not resign from his position in the company prior
to the sale.
Thankfully, the answer is often yes. If certain conditions are met, the
transaction is treated as a capital sale of shares and not as an income
distribution from the company. The normal capital gains tax principles can
therefore apply, which with the availability of entrepreneurs’ relief can result
in a tax charge for the vendor of only 10%.
If you would like to find out more,
please contact Mike Swan on
01233 629255 or
[email protected].
www.wilkinskennedy.com
151