View the related Tax Guidance about Loan notes
Employment-related securities ― PAYE
Employment-related securities ― PAYEIntroductionAwards of securities, exercise (or vesting) of securities options and certain other events relating to employment related securities (ERS) may be liable to income tax as earnings under ITEPA 2003 s 62, or the special ERS rules under ITEPA 2003 ss 417 – 554 (Part 7).The tax charges may be personal tax charges for the employee via self-assessment, or employers may be obliged to withhold income tax and NIC under PAYE.This note aims to set out which ERS related tax charges, and in what circumstances, employers must operate PAYE and NIC, and the practical implications of doing so.Share awardsAn outright award of ERS represents ‘money’s worth’ and is taxable under ITEPA 2003, s 62. The taxable amount is the market value of the securities less any payment made by the employee. Market value is de-fined at TCGA 1992 ss 272 - 273The ‘money’s worth’ taxable amount may be a personal tax liability of the employee, payable via their self-assessment tax return, or there may be a liability to withhold income tax and NIC under PAYE for the employer. This depends on whether the securities are considered to be ‘readily convertible assets’ (RCAs). Where the ERS are RCAs, income tax and NIC will be due via PAYE. Where the ERS are not RCAs, income tax will be due via the employee’s self-assessment tax return with no NIC due.What are Readily Convertible Assets?RCAs are defined in ITEPA 2003 s 702. The intention of the category of RCAs is
Investors’ relief
Investors’ reliefInvestors’ relief is a capital gains tax (CGT) relief on the disposal of qualifying shares in an unlisted company. A taxpayer making a disposal that qualifies for investors’ relief will pay tax at a rate of 10%.Although it is a separate relief, the rules for investors’ relief were intended as an extension to business asset disposal relief (previously known as entrepreneurs’ relief) and therefore complement and mirror those rules, to a degree. See the Conditions for business asset disposal relief guidance note.IntroductionInvestors’ relief is aimed at incentivising external investment. It is not intended to be accessible by individuals whose natural means of capital gains relief on a disposal would be business asset disposal relief. Accordingly, most employees and directors will not be entitled to investors’ relief.Also, unlike business asset disposal relief, there is no requirement to hold a minimum number of shares in the company. There is a lifetime limit on the relief of £10m, which is in addition to that applying for business asset disposal relief.The rules for investors’ relief are contained in TCGA 1992, ss 169VA–169VY. HMRC guidance on investors’ relief can be found at CG63500P. Conditions for reliefRelief is available where a qualifying person makes a disposal of, or of an interest in, a holding of shares that includes qualifying shares in an unlisted company provided a claim for the relief is made. A qualifying person is an individual or a trustee. Investors’ relief is not available to companies.Qualifying sharesQualifying shares are ordinary shares (within
Preparing for an employment-related securities due diligence exercise
Preparing for an employment-related securities due diligence exercise IntroductionDue diligence (DD) exercises looking at employment-related securities (ERS) and share schemes take place in a number of circumstances but broadly all with the same aim – to look at risk areas around ERS and share schemes where there could be liabilities, penalties or other risks for the company. Where possible, the DD report will quantify those risks. It is worth noting that tax liabilities which do not rest with the company are not usually within the scope of a DD report eg income tax charges which fall solely on an employee or director would not be within scope, but income tax due via PAYE would be.It is worth noting that tax liabilities which do not rest with the company are not usually within the scope of a DD report eg income tax charges which fall solely on an employee or director would not be within scope, but income tax due via PAYE would be.An ERS DD could be expected when any mergers and acquisitions (M&A) activity is due to take place. This includes, but is not limited to:•when marketing the company for sale•a bank or other lender considers making a loan to the company•a person or organisation considers investing in a business•when preparing to list on a stock exchange via initial public offering (IPO)It is unusual for an ERS DD to be a stand-alone exercise unless it has already been identified as a high-risk area for
Introduction to management buy-outs (MBO)
Introduction to management buy-outs (MBO)Basic structure of the MBOAn MBO takes place when the management team, which typically includes directors and first tier management, enters into an agreement to purchase an existing business. The usual form of an MBO is either:•the acquisition of the shares in the target company (Target) by a company newly incorporated by the management team to make the acquisition (Newco)•the acquisition of the trade and assets of Target by Newco•the transfer of Target’s trade to a subsidiary of Target (Target Subco) followed by Newco’s acquisition of Target Subco (known as a hive-down)Other structuring considerations ― funding for the transactionThe management team will invest funds into the new structure, which will usually consist of a combination of share capital and loan financing (eg loan notes). By owning an equity stake in Newco, the management team have the incentive of benefiting from the capital growth of the company on future disposal of their shares. It may be possible that the transaction can be structured a way that the investors benefit from EIS relief. See the Enterprise investment scheme ― introduction guidance note for further details. The management team may also benefit from business asset disposal relief (previously
Demerger via liquidation ― tax analysis
Demerger via liquidation ― tax analysisThis guidance note follows on from the Demerger via a liquidation ― overview guidance note which gives an introduction to demergers via liquidations (also known as non-statutory demergers, or section 110 demergers) and includes diagrams to illustrate a typical demerger via liquidation. HMRC clearances will be required if this demerger route is chosen and appropriate time should be built into the transactions process for these. For more information, see the Demerger clearances guidance note.For overall guidance on demergers, including choice of the most appropriate route and planning the demerger project, see the Demergers ― overview guidance note.Tax analysis of a liquidation demerger ― overviewThere is more than one method for carrying out a liquidation demerger. However, the typical steps for carrying out a liquidation demerger are shown below. Depending on the steps involved, tax charges can be triggered either at the corporate or shareholder level (or both). For a more detailed description of the steps involved in a liquidation demerger, see the Demerger via a liquidation ― overview guidance note.A high-level overview of the steps and related tax implications are as follows:StepDescription of stepTax implications ― shareholder levelTax implications ― corporate levelOneInsert a new holding company (Liquidation HoldCo) above the current holding companyProvided HMRC accepts that the share exchange is driven by commercial reasons (confirmed by a TCGA 1992, s 138 tax clearance), the shareholders will not trigger any capital gain on the
Takeovers
TakeoversWhen one company acquires control of another company, this is called a takeover. This guidance note considers the capital gains tax (CGT) implications for shareholders of the company being taken over.The consideration paid by a purchasing company to the shareholder(s) for their shares in a target company could be either:•wholly in cash•new securities in the vendor in exchange for shares in the target company (a ‘share-for-share exchange’), or•a mixture of cash plus new securitiesCash considerationA chargeable gain or allowable loss will arise if all or part of the consideration given to the vendor on a takeover involves cash.Wholly in cashIf the old shares are exchanged for cash, this is a disposal of all of the original shares and a gain or loss will arise. This is calculated in the normal way using the share matching rules. For guidance on calculating the gain on share disposals, see the Disposal of shares ― individuals guidance note.Cash plus new securitiesIf the old shares are exchanged for a mixture of new securities plus cash, this is a part disposal for CGT. A gain or loss will arise on the cash element, but not on the securities element (as long as the share-for-share rules are not disapplied, see below). Wherever a part disposal arises, the allowable cost that can be deducted from the cash proceeds is calculated by using the formula:Where:•‘A’ is the cash received on the takeover•‘B’ is the market value of the new securities received•‘MV82’ is
Tax implications of share sale
Tax implications of share saleA business can be sold either by selling the shares in the company that runs it (a share sale) or by that company setting the trade and assets directly (an asset sale). See the Comparison of share sale and trade and asset sale for an overview of the main tax differences in these two sale structures.When a company is disposed of by way of a sale of its shares, its ‘history’ including its tax history is transferred along with the shares. The due diligence process aims to identify any contingent or hidden tax, commercial or financial liabilities which may potentially fall on the purchaser in the future. In addition to general tax risks, many companies deferred tax bills due to coronavirus (COVID-19), sometimes under bespoke arrangements. If that is the case, careful due diligence will need to be undertaken in order to determine exactly what has been deferred, when it is due and how the cost will be funded. If the tax due diligence uncovers material potential tax risks or liabilities, this may lead to:•negotiation of specific warranties or indemnities relating to the potential tax exposure in question in the sale and purchase agreement•a reduction in the price payable for the shares, or•a change to the structure of the deal to work around the potential issueIn a worst-case scenario where the potential tax liability is very large in the context of the transaction in question and outweighs the commercial benefits, the deal
Penalties where agent is acting
Penalties where agent is actingIntroductionUnder the penalty legislation introduced by FA 2007, Sch 24, where an inaccuracy has occurred on a return or other document which leads to an understatement of tax, the taxpayer is exposed to a penalty.The rate of the penalty is based on the behaviour of the person and whether the disclosure of the error was prompted by HMRC. Once the rate has been calculated, this is then applied to the potential lost revenue (PLR), which is the extra tax due as a result of correcting the inaccuracy or under-assessment, in order to determine the amount of the penalty due.The behaviour of the taxpayer is covered in more detail in the Calculating the penalty for inaccuracies in returns ― behaviour of the taxpayer guidance note. The PLR is discussed in the Calculating the penalty for inaccuracies ― potential lost revenue guidance note. The quality of the disclosure made to HMRC is covered in the Penalty reductions for inaccuracies guidance note.Inaccuracies when an agent is actingThe taxpayer can be held liable for an inaccuracy in return prepared by an agent. However, the taxpayer is not liable to a penalty in relation to anything done or omitted by the agent if HMRC is satisfied that the taxpayer took reasonable care to avoid an inaccuracy. This would mean that the taxpayer would need evidence that reasonable care had been taken over the tax affairs. For a discussion of reasonable care, see the Reasonable care ― inaccuracies in returns guidance
What is meant by a loan relationship ― practical approach
What is meant by a loan relationship ― practical approachBrief overview of the rulesThe loan relationships legislation applies to any ‘money debt’ arising from the lending of money entered into by a company, either as a lender or borrower. The rules are contained in CTA 2009, ss 292–569 (Parts 5 and 6).Broadly, the tax treatment of loan relationship-related debits and credits is based on the amounts reflected in profit and loss in the company’s accounts (under GAAP), with debits generally being allowable and credits being taxable. However, there are a number of exceptions to this general rule. One of the most important exceptions is where the relevant loan relationship is between 'connected companies'. For connected companies, any loan relationship debits are generally not allowable and any loan relationship credits are treated as not taxable. Connected companies are also prevented from using fair value accounting and must use amortised cost basis accounting for their loan relationships.Typically, the tax analysis would first involve assessing whether the debt actually constitutes a loan relationship. In some situations, this will be obvious (for example, a normal loan evidenced by a loan agreement), but in other cases, the analysis is more involved. Once it is established that the debt is within the scope of the loan relationship rules, it is then necessary to consider if the companies are connected and what this means in terms of the tax treatment.This guidance note provides a practical approach to tackling the legislation in relation to the first step.
Preparing group for sale or acquisition
Preparing group for sale or acquisitionOften a company or group of companies has developed gradually over years, with different businesses being run within a single company or the group structure being overly complex for historic reasons. When a decision is made that a group, sub-group, single company, business or a collection of assets should be divested, it is often necessary to restructure in order to rationalise the structure and/or separate out the parts that are to be sold.This note considers the various issues that should be considered before a sale. Indeed, groups may wish to consider these issues periodically to ensure that their structure is suitable for a quick sale if the opportunity arises suddenly.However, many companies will not address them until a potential buyer has already been identified and commercial negotiations have already started. In that case, these issues should be considered alongside the factors that should be taken into account when deciding on the sale structure itself (see the Comparison of share sale and trade and asset sale guidance note). Note that even if an asset sale is preferred then it may still be sensible or commercially necessary to restructure the business so there is a single seller/sale by the individual shareholders and/or so it is clear that a separate, ongoing trade is being sold.Other guidance notes in this topic cover:•the tax implications of the sale structure, see the Tax implications of share sale and Tax implications of trade and asset sale guidance notes•some specific
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