A company buyback of shares is a popular route for shareholder exits. In many cases the payment on the buy back will qualify for capital treatment and taxed at lower rates of tax than dividends.
We are always happy to discuss your situation and provide a scope and fee estimate. Please do give us a call.
Benefits of working with us
We are a specialist law firm with a strong tax capability made up of solicitors, members of the Chartered Institute for Taxation and the Chartered Institute of Accountants. We combine tax law with the practicalities.
- We have handled many company buyback of shares in our time. Familiarity with the practice area brings expertise and cost savings.
- Accountants refer clients to us in this specialist area.
- Combing legal with tax means that we can draft the agreements HMRC will need to review before giving clearance. We also deal with the shareholder resolutions and filings at Companies House.
Structuring a company buyback of shares
In order to guide you on how to manage the company buy back of shares we have set out below some pointers.
- How a share buy back works;
- Funding a company share buyback;
- Taxation of a company share buyback;
- Implementation of a company share buyback.
How a share buy back works
A company buyback of shares is a perfectly legitimate method of extracting cash from a private company. Company buy backs are a route for shareholders (including shareholders who are directors or employees) to realise value for their shares. The legislation is strict but in the past we have found creative solutions.
Company share buyback conditions
There are some basic rules behind which detail sits.
- The company uses its post-tax distributable reserves to pay for the shares. If the company does not have the cash available to pay for the shares the company cannot buyback the shares.
- The company cancels the shares bought back. This means that all remaining shareholders gain an increased share entitlement as there are fewer shares in issue.
- If the shareholder is either an employee or a director at the time of the company share buy back and has held the shares for at least five years the profit the shareholder makes is taxed as capital at the rate of 10% CGT.
- If the shareholder is not an employee or director but has held the shares for at least five years the profit the shareholder makes is taxed as capital at the rate of 20% CGT.
- In other cases the profit made by the shareholder is taxed as a dividend.
Company share buyback vs share purchase
There are differences between a share buy back and a share purchase. The differences do impact on the commercial viability of transactions.
Share buy back
A share buyback is a transaction between an existing shareholder and a company.
- The company can repurchase its shares at any price.
- Shareholder approval is required.
- There must be sufficient distributable reserves.
- Funding for the transaction is from the company.
- All remaining shareholders receive an uplift.
A share purchase is a transaction between a shareholder and an independent third party buyer or an existing shareholder of the Company.
- The purchase price depends upon the buyer’s willingness to pay.
- Often, the directors must approve the purchase but shareholder approval is not required.
- Funding is from the purchaser.
- There is no impact on existing shareholders where the purchaser is an independent third party.
- Where the purchaser is an existing shareholder, his shareholding increases.
Funding the company share buy back
Tax law does not prescribe the price per share to be distributed by the company to pay for the share buy back. The price is a matter of negotiation between the directors and the shareholder. There is an HMRC requirement that the share buy back must be for the benefit of the company. To distribute excessive amounts on paying for the shares bought back by the company can in some circumstances fall foul of this HMRC requirement.
The company must have sufficient distributable reserves to fund the share buy back. If the funds are not paid from distributable reserves liabilities can arise.
- The directors can be held liable for acting in breach of their duties.
- Other shareholders can attack the company share back transaction and void the contract.
- HMRC can deny beneficial tax treatment for the shareholder.
Buy back from a new share issue
A company can raise money by issuing new shares and using the subscription monies to fund the company share buy back from a departing shareholder. Where the company issues new shares to raise money for the buy back it needs to make it clear that this is the purpose of the share issue.
Shares cannot be issued as consideration for the buy back.
Buy back from borrowing
Funding share buybacks with borrowed money is generally prohibited for private companies. We review and discuss HMRC approved ways to restructure the company before the buyback to get around any problems.
Alternatives to distributable reserves
Shares can be repurchased by distribution in specie e.g. maybe the company owns property, and this asset could be distributed to a shareholder. Alternatively, the company could release a shareholder from an existing debt. However, the distribution will not receive capital treatment.
If distributable reserves are likely to build up in the future a staged buy back can be attractive. Under a staged buy back all of the shares are bought back by the company but payment is deferred over a period of time. There are restrictions in the Companies Act relating to payment for shares. The result is that the shareholder must protect himself against the company’s default in paying for the shares at later stages. We protect shareholders by drafting guarantees and bespoke default clauses.
HMRC have put the spotlight on company share buy backs using deferred consideration. There are new risks to navigate around.
Taxation of a company share buyback
Unless you qualify for capital treatment, shareholders are taxed on the payment received as if it was a dividend.
HMRC’s key requirements to treat the buyback as capital include:
HMRC conditions for capital taxation of the profit made by a shareholder
- The shareholder must have held the trading company’s shares for five years;
- The departing shareholder’s holding must substantially reduce;
- There must be a solid business case; and
- The buy back cannot be a part of a tax avoidance plan.
There are structures we can consider if the shares have not been held for five years which will result in capital treatment.
HMRC clearance to a company share buyback
If the tax payer qualifies for capital treatment it is possible to obtain a tax clearance from HMRC to this effect. To be successful HMRC need to be provided with details in their agreed format along with accompanying documentation for the company share buy back. We can draft the documentation and handle the HMRC clearance for you.
There is no point in applying for an HMRC clearance in cases where it is clear that the receipt will be taxed as a dividend.
Tax trap for EIS companies
A company buy back within an EIS company within three years of the EIS investment can cause the EIS investors to lose their relief. We are always happy to look into this for you.
Implementation of the share buy back
We will plan for your company share buy back and oversee implementation for you. There are stages to work through as follows:
- Background review of the articles and shareholders’ agreement before the share buy back;
- Drafting the share buy back documentation;
- Obtaining shareholder approval; and
- Filings with HMRC for stamp duty and Companies House.
Before the company share buy back
We review the articles of association. We will tell you if there are restrictions that prevent share buybacks, e.g.
- Prohibition on purchase of own shares;
- Restrictions on share transfers;
- Given advance warning, we can usually navigate any restrictions.
Drafting the company share buy back documentation
We prepare the documentation needed to implement the company share buy back. Typically, the documents required for a share buyback include:
- A share buy back agreement;
- Board meeting notices for members;
- Board meeting minutes to seek members’ approval for share buy back;
- Written resolution to approve share buy back;
- Stock transfer form; and
- Company House filings.
If you repurchase shares out of capital, then you require further documents and a Law Gazette announcement to notify potential creditors.
Stamp duty on share buyback
If the purchase price exceeds £1,000, the company pays ad valorem stamp duty on the purchase price of shares. We will deal with stamping and notifications required to HMRC.