De-mergers and re-organisations are used to split up a business or consolidate subsidiaries for a variety of reasons. There are tax reliefs designed to make the transactions tax natural for shareholders. But, there is a but being the structure needs to fit within the tax rules. There will be unexpected tax liabilities if not handled properly.
Please do call us to discuss your query. We will always scope any work and provide an estimate giving you clarity on the likely path and legal fee costs.
Reasons for picking us
You can rely on our experience. We have a strong track record.
- We design re-organisations and de-mergers to solve a variety of business issues such as the need to separate trades in advance of a sale or acquisition or to facilitate investment. Our focus is on SMEs and private or family run companies.
- We field expertise in commercial property transactions as well as tax providing a seamless service,
- Our experience covers re-organisations following a shareholder dispute or as part of succession planning.
- Over the years we have amassed valuable know how and importantly how to apply that knowledge to best effect.
To help you we have summarised some of the questions we are commonly asked:
Making a business re-organisation or de-merger work
- What to look out for when splitting a business;
- Choosing the best way to split;
- Impact of a split of the business on employees;
- Getting the legal documentation right; and
- Tax on a split of the business.
What to look out for when splitting a business
The key concerns we look out for when demerging a business are:
- Goodwill and branding – Who gets to keep the trading name and goodwill requires a decision as this is an asset which can be very valuable. A further point is trading history – some businesses need a solid history to deal with lenders and suppliers. In other cases the demerger is an opportunity to bury an undesired history. We establish some of the salient features early on to keep the demerger discussions on a commercial track;
- Continuity of business contracts – existing contracts may be affected by change of control of the resulting businesses. Depending on the drafting there may be notices required in order to avoid a breach of contract claim;
- Distributable reserves – the cash position of the company will affect the choice of demerger route;
- Dealing with assets and liabilities – this is an obvious commercial consideration. But, it can also have an impact on the tax payable by shareholders or the companies upon the business split.
- Allocation of debts – debts can be left behind or taken across to a new business.
- Tax treatment of the demerger
Choosing the best way to split a business
There are three key ways to split a business. The best choice will depend on your circumstances and business objectives. You should consider:
- Statutory demerger;
- Reduction of capital demerger; or
- Liquidation demerger.
This usually involves a creation of one or two new companies (NewCo) underneath the existing parent company. The NewCo shares are then transferred to the individual shareholders in proportion to the value of the respective businesses. Alternatively, new companies independent and distinct are created from a business.
We find statutory demergers are a popular choice. A statutory demerger offers a well established route to achieve many of the desired outcomes. It is possible to create the demerged businesses free of any immediate tax liability. A big benefit is that HMRC will give advance clearance on the tax neutrality.
Reduction of capital demerger
Splitting the business can be carried out by reducing the share capital of the existing company. The existing business is transferred to the shareholders or new companies held by the shareholders and the consideration for the transfer is treated as a repayment of share capital. If carried out as a scheme of arrangement, it can be very tax efficient.
Reduction of share capital in a private limited company
A company can reduce its share capital and realise cash by reducing the:
- Number of shares;
- Amount paid up;
- Share premium account; or
- Capital redemption reserve.
Capital reduction generates a reserve which can be either paid out to shareholders e.g. a departing shareholder or retained as a reserve for the company. It cannot be used to pay a shareholder a cash payment which exceeds the amount of the share capital reduction.
Reduction of capital requires shareholder approval and a solvency statement. Reduction of share capital is a popular route for splitting a business.
A liquidation demerger involves dividing an existing business into separate businesses between existing shareholders and closing down or liquidating the existing company. It is commonly used where the shareholders want to continue running the business but do not share the same vision for the future.
The downside is that the trading history and goodwill of the demerged company is destroyed. Liquidation is not always straight forward if there are potential liabilities to face. There are also the costs of a liquidator to consider along with whether the company can be legally liquidated.
HMRC have tightened up on the tax benefits available to shareholders upon liquidation. Consequently, we are finding that this route is not as popular as in the past but it still works in some cases.
Impact of a split of the business on employees
Splitting a business may result in a change of employers especially if a NewCo is created. Splitting a business may affect the employment terms. The most common scenario is that the transfer of employees falls under the TUPE legislation.
Impact of TUPE when splitting a business
Amongst other things TUPE means that:
- There will need to be consultation with employees.
- A strict rule of TUPE is that the terms and conditions need to be preserved. Restrictions on activities after employment often become outdated leaving the business exposed.
We can look at the employment law issues and plot a way forward which is commercially workable as far as is possible under the TUPE framework of law. Timing can be important and it pays to plan for the whole TUPE process.
Impact of redundancies
It is often the case that some employees are no longer needed as a result of the de-merger. Dismissal as a result of a de-merger can be a fair reason meaning the employer is not exposed to an employment law claim. The process is delicate and consultations and communication with the employees is needed. We do take employers through this difficult process and see them through to the other end.
Demerger and employee shares
Splitting a business will have an impact on any existing options or employee share arrangements. The impact will depend on the exact terms of the option agreement or shares held and the articles of association or any shareholders’ agreement.
We find the most likely consequences of a demerger on shares held by employees are:
- Employee options (including EMI options) become exercisable which is problematic if the value is not in the business in which the options are held. There can be work arounds depending upon the circumstances;
- The agreements may include provisions enabling options to roll over to a new share plan in the newly emerged business – all depends upon the facts. There can be a risk of loss of EMI approved status;
- Performance conditions and vesting may be affected.
There is no standard advice – each case needs to be looked at independently.
Reviewing or drafting the demerger documents
Often before a demerger can happen the company must change its articles of association and get shareholder consents to effect the demerger. We look at what needs doing for you.
We review and/or draft the demerger documentation and
- Deal with shareholder consents;
- Flag key risks;
- Warranties and indemnities – we help negotiate protections against liability for losses.
Tax on a demerger
Demergers can be very tax efficient, if carefully structured. Often, tax can be reduced to nil. If a demerger is not carefully structured the shareholders risk:
- Income tax on shareholders on the value of the demerged business;
- No corporation tax deduction;
- De-grouping charges on the company;
- Unwanted stamp duty land tax on the properties leaving a group of companies; and
- Loss of group relief.
A carefully structured demerger will follow the HMRC approved scheme of reconstruction rules. The rules are complex but for most demergers the following basic criteria have to be met:
- The demerger must be made wholly or mainly for the purpose of benefiting some or all of the trading activities;
- All the companies involved in a demerger must be UK tax resident;
- The companies must be trading companies;
- The distributing company must have sufficient distributable profits;
- The main purpose of the demerger must not be tax avoidance;
- The value of the assets distributed must reflect the % shareholding;
- The shares cannot be distributed to a third party.