Tax on share buy back
- Catherine Gannon
- Updated: Mon, 21st Nov 2016
Our client had recently resigned as an employee of a digital media company, as a competitor had offered him a fantastic opportunity. He wanted us to sell his company shares, and negotiate post- termination restrictions.
We reviewed the relevant documentation including the company’s:
- Articles of association;
- Shareholders agreement;
- Director service agreement.
Options for selling shares
Our client had several options for selling his shares, each of which had different tax consequences. This was because, unusually, the articles of association and shareholders agreement did not did require a director or employee to sell their company shares, when their directorship or employment ceased.
The main options we discussed with our client were:
- Remain a company shareholder;
- Sell his shares to a third party;
- Sell his shares to an existing company shareholder;
- The company to buy back his shares.
Remain a company shareholder
Our client could have remained a company shareholder indefinitely. However, he wanted a clean break and to realise the value in his shares. In reality the company would probably not want a shareholder to employed by a competitor in a senior role.
Share sale to third party
The articles of association contained pre-emption rights on share sales to a third party. Our client thought it unlikely that any third party would purchase his 15%, minority shareholding.
Share sale to existing shareholder
We advised our client that selling his shares one or more existing shareholders was straightforward. Legally, it would just involve signing a stock transfer form and short form share purchase agreement.
Done right, he would benefit from entrepreneur’s relief, because he was still a company employee and director. This would mean an effective capital gains tax rate of 10% on the first £10 million of lifetime gains. This was
However, first find existing shareholder(s) willing to purchase his shares at an agreed price.
Selling shares back to a company
Selling his shares back to the company would be more complex. There were additional legal and tax issues compared to selling shares to an existing shareholder.
However, after approaching the existing shareholders, a company share buyback looked the most viable option.
Tax on share buyback
We supported our client throughout the share buyback process. Firstly, because we have share and company valuation expertise, we assisted our client’s share price negotiations
Secondly, our client was an additional rate tax payer. We agreed in advance with HMRC that the distribution element of the consideration would not be treated as a dividend, but as capital. A dividend would have incurred significant tax. Thus the tax on the proceeds of the share buyback was the same as if our client sold his shares to a third party.
Since the following conditions were satisfied, we treated the consideration as capital:
- The company buying back the shares was unquoted.
- The company was a trading company
- The purpose of the buyback was to benefit a trade carried on by the company, and did not form part of a tax avoidance scheme
- Our client was UK resident and had owned the shares for more than 5 years
- Our client was selling all of his shares in the company and would not be connected with the company after the sale
Once the purchase price was agreed, we reviewed and negotiated the documentation to effect the sale. The company’s legal advisors prepared these documents, which included:
- Share buyback agreement;
- Ancillary documents including board minutes;
- Companies House forms;
- Shareholder resolutions.