Director resigns: company forces share buyback
- Helen Curtis
- Updated: Thu, 8th Dec 2016
We enabled an employer to re-claim shares when an employee director resigned. First we reviewed relevant documentation including the company’s articles of association, shareholders agreement and director service agreement.
Forced share sale when an employee or director departs
We explained that the employer had three options to resolve the sale of the employees’ shares. Each had different tax consequences. The three options were for:
- The employee to remain a company shareholder;
- The company to buy back the employees shares and cancel them after buy-back;
- The shares to be sold to a third party or existing shareholder of the company.
It is always difficult to establish a value for shares when selling a private company’s shares, as there is no market.
Employee remains a company shareholder
The employee could have remained a shareholder in the company indefinitely. However, the employer wanted a clean break, believing they would be future growth in value.
Sell shares to an existing shareholder
We advised that the employee could sell his shares to one or more existing shareholders. This is straightforward from a legal perspective. It would involve signing a:
- Stock transfer form;
- Short form share purchase agreement.
In addition, as a 15% shareholder, who was still an employee and company director, the employee benefited from entrepreneurs’ relief. His effective capital gains tax rate would be 10% on the first £10 million of lifetime gains.
However, the main hurdle would be finding an existing shareholder(s) willing to purchase the shares at a reasonable value.
We advised that if the company purchased the employees shares, more complex legal and tax considerations emerge. However, after approaching existing company shareholders, only the company buyback option was viable. This suited the employer, as it was a means of extracting distributable reserves held by the company.
We supported our client throughout the share buy back process. We:
- Negotiated the price paid by the company for the shares.
- Agreed in advance with HMRC that the distribution element of the consideration would not be treated as a dividend. A dividend would result in a significant tax liability for our client. Instead the distibution would be treated as capital.
Thus the employee was subject to tax on the same basis as if he had sold his shares to a third party. The employees tax position would have been different if either the shares had not been held for five years or there was a part-disposal of the shares.
In order to qualify for capital treatment on a share buy back the following conditions need to be satisfied:
- 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 resident in the UK 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.
Entrepreneurs’ tax relief & share buyback documentation
Timing was important. To qualify for the beneficial entrepreneurs’ tax relief, the employee must be employed or a director at the date of the buyback. Once the purchase price was agreed, we reviewed and negotiated the documentation to effect the sale and cancel the shares. This included the
- Share buyback agreement;
- Board minutes;
- Companies House forms;
- Shareholder resolutions.
The share cancellation meant that existing shareholders effectively increased their holdings, in return for allowing the payment out of distributable profits, to buy-back the employees’ shares.
Helen Curtis is a member of the employee share plan team. There are many surveys and statistics which show that companies with employee share plans in place out perform those without. We implement a wide range of solutions for a wide range of business needs.