A CAPITAL GAINS TAX UPDATE (TO INCLUDE ENTREPRENEURS RELIEF) Robert Jamieson MA FCA CTA (Fellow) TEP 14 September 2017
COMPANY DISTRIBUTIONS Following liquidation, shareholder will receive capital distribution liable to CGT preferable to receiving income payment. Informal dissolutions S1030A CTA 2010. Government believe shareholders are increasingly seeking tax advantage of being charged to tax on gains rather than income. New anti-avoidance individuals only.
COMPANY DISTRIBUTIONS (CONT) But consultation about more wide-ranging approach to stop future conversion of income to capital (eg. reintroduction of close company apportionments?). W.e.f. 6 April 2016, new TAAR applies to distributions in respect of share capital on winding up (S396B ITTOIA 2005). No statutory clearance procedure, but HMRC guidance has now been published.
COMPANY DISTRIBUTIONS (CONT) See Paras CTM36300 CTM36350. Treats distribution on winding up as income receipt where: individual, having interest of at least 5%, receives distribution on winding up; company was close when it was wound up (or had been at some point in previous 2 years);
COMPANY DISTRIBUTIONS (CONT) within 2 years following distribution, he (or connected person) is involved in similar trade or activity; and it is reasonable to assume that main purpose, or 1 of main purposes, is avoidance or reduction of income tax liability. Aimed at phoenixism. HMRC s original examples:
COMPANY DISTRIBUTIONS (CONT) landscape gardener; IT contractor; and accountant. Exemption from TAAR where distribution received by individual: does not exceed his CGT base cost; or only comprises irredeemable shares.
ER AND OWN SHARE PURCHASES Significant difference between rates of CGT (especially where ER is in point) and higher rates of income tax. This encourages owner managers to extract value from their companies in form of capital gain. With own share purchases, proceeds are prima facie taxed as income. However, CGT treatment is available.
ER AND OWN SHARE PURCHASES (CONT) Requirements are: vendor has held shares for 5 years; vendor is UK-resident; purchase was made for benefit of company s trade (and was not part of any tax avoidance arrangements); company is unquoted trading company or holding company of trading group;
ER AND OWN SHARE PURCHASES (CONT) vendor s proportionate shareholding has been substantially reduced or eliminated by own share purchase; and vendor is not connected with company immediately after own share purchase. Formal clearance procedure. But what if company cannot afford to pay shareholder in full?
ER AND OWN SHARE PURCHASES (CONT) Customary nowadays to settle payment in tranches spread over number of years. Known as multiple completion contract. Vendor gives up beneficial interest in shares which are bought back no further dividends or votes. He will normally also resign directorship. CGT payment date.
ER AND OWN SHARE PURCHASES (CONT) HMRC accept that multiple completion contract is valid arrangement see ICAEW TR745. Is there new problem for ER claims relating to sale proceeds for second and subsequent tranches? Company does not acquire shares from vendor given that such shares are cancelled, but this is no longer automatic.
ER AND OWN SHARE PURCHASES (CONT) What if S28 TCGA 1992 does not apply? Payments for second and subsequent tranches represent lump sums derived from asset (ie. subject to tax under S22 TCGA 1992). If so, gain is taxed when tranche is received rather than at original exchange date. ER denied where vendor is not director.
ER AND OWN SHARE PURCHASES (CONT) Note that clearance under S1044 CTA 2010 only confirms that transaction is not treated as income distribution. It does not say that ER is available. HMRC s argument goes against all accepted technical analyses of multiple completion contracts they are not tax avoidance schemes. Indeed, whole of CGT is paid up front!
ER AND OWN SHARE PURCHASES (CONT) Since ICAEW TR745 has never been retracted, is there possibility of running legitimate expectation argument in relation to deals which have already taken place? Should shareholders be looking to retain sentimental 5% stake following own share purchases? And remaining as part-time employee?
TAKE CARE WITH PERCENTAGES Castledine v HMRC (2016). In order to qualify for ER on disposal of shares, it is necessary for individual, throughout period of 12 months, to have: held at least 5% of O.S.C. and voting rights; and been officer or employee. Definition of O.S.C. in S989 ITA 2007.
TAKE CARE WITH PERCENTAGES (CONT) O.S.C. means all the company s issued share capital (however described), other than capital the holders of which have a right to a dividend at a fixed rate but have no other right to share in the company s profits.
TAKE CARE WITH PERCENTAGES (CONT) Case concerned disposal of loan notes in company where taxpayer held exactly 5% of ordinary shares. Unfortunately, company had also issued some deferred shares with no right to dividends or votes. In reality, these deferred shares were worthless.
TAKE CARE WITH PERCENTAGES (CONT) But they counted as O.S.C. and so taxpayer s interest in company dropped to 4.99%. Company was not personal company disposal of loan notes did not qualify for ER. Consideration of decision in stamp duty case of Collector of Stamp Revenue v Arrowtown Assets Ltd (2003).
TAKE CARE WITH PERCENTAGES (CONT) In that case, issue of deferred shares purely for tax planning reasons was ignored. Why, then, was decision in Castledine case different? Important for tax advisers to keep careful eye on shareholders percentage interests, particularly where there are unexercised share options.
MEANING OF ORDINARY SHARE CAPITAL McQuillan v HMRC (2016). Company formed in 2004 initial share capital was: M 33 ordinary shares; Mrs M 33 ordinary shares; P 17 ordinary shares; and Mrs P (M s sister) 17 ordinary shares.
MEANING OF ORDINARY SHARE CAPITAL (CONT) Subsequently, Mrs P and her husband lent 30,000 to company. Company prospered. Company approached Invest Northern Ireland for grant agreed on condition that loan was converted into shares. On 12 June 2006, converted into 30,000 redeemable ordinary shares.
MEANING OF ORDINARY SHARE CAPITAL (CONT) These shares carried no votes and were redeemable at par (but no earlier than March 2009) they had no dividend entitlement. Company was taken over at end of 2009. Redeemable ordinary shares repaid on 14 December 2009. Dividend of 700 per share paid on 23 December 2009.
MEANING OF ORDINARY SHARE CAPITAL (CONT) Takeover completed on 1 January 2010. Question: were M and his wife entitled to ER for 2009/10? HMRC refused claim on ground that redeemable shares counted as O.S.C. and so 5% shareholding test was not satisfied. Dividend of 0% = dividend at fixed rate? Comparison with VAT.
MEANING OF ORDINARY SHARE CAPITAL (CONT) First-Tier Tribunal decided that it was. Therefore, redeemable ordinary shares were excluded Mr and Mrs M allowed to claim ER. Victory for common sense, but goes against long-standing HMRC view. Also at odds with decision in Castledine v HMRC (2016) will HMRC appeal?
REIMBURSEMENT OF PURCHASER S COSTS S38 TCGA 1992 deals with permitted deductions when calculating gain on sale of property (and other assets). Normally, these relate to costs which are paid by vendor. In O Donnell v HMRC (2017), question before First-Tier Tribunal was whether this also covered vendor s reimbursement of purchaser s costs.
REIMBURSEMENT OF PURCHASER S COSTS (CONT) Fees and other amounts paid for various professional services are expressly allowed, together with transfer or conveyance costs incurred wholly and exclusively for purposes of disposal. In O Donnell case, Tribunal decided that vendor s reimbursement of purchaser s legal costs qualified for relief sale was thereby facilitated.
REIMBURSEMENT OF PURCHASER S COSTS (CONT) However, in order to qualify for this deduction: any such payment made by vendor must be by way of reimbursement; amount reimbursed must fall within S38 TCGA 1992; and there was no reason for reimbursement other than to ensure that sale went ahead.
APPROPRIATION TO TRADING STOCK Where chargeable asset is appropriated for use as trading stock, trader is deemed to have sold asset for current MV. Potential difficulty of collecting CGT dry tax charge. Election under S161(3) TCGA 1992: no gain or loss; but MV of asset in trading accounts is adjusted.
APPROPRIATION TO TRADING STOCK (CONT) Converts capital gain into trading profit but is this always desirable? Time limit for making election. Hitherto, election has also been valid where there was allowable loss effect was to replace loss with more flexible trading deduction. Widely used planning point in recent times for, eg. property developers.
APPROPRIATION TO TRADING STOCK (CONT) However, election facility has been removed for appropriations to trading stock made on or after 8 March 2017 where loss arises. Loss now has to remain as capital item. Election can still be made for chargeable gains.