This site uses cookies. By continuing to browse the site you are agreeing to our use of cookies. To find out more about cookies on this website and how to delete cookies, see our privacy notice.

Here Be Dragons? Investors’ Relief

Shared from Tax Insider: Here Be Dragons? Investors’ Relief
By Mike Truman, July 2016
In his March 2016 budget, the Chancellor announced an ‘extension’ of capital gains tax (CGT) entrepreneurs’ relief (ER). The background release, however, described it as a new ‘investors’ relief’. The uncertainty about exactly how to categorise it extends to the legislation in Finance Bill 2016, which creates a new TCGA 1992, Pt 5, Ch 5 and renames it ‘entrepreneurs’ relief and investors’ relief’; the accompanying explanatory notes (surely incorrectly) makes the relief singular, ‘investor’s relief’.

It’s not surprising that there is confusion. The effect of the relief is the same as ER, in that £10 million of gains gets a CGT rate of 10% over a lifetime. It is, however, in addition to the £10 million of ER, and specifically excludes shares held by those who are officers or employees of the company. It is perhaps best seen, conceptually, as an encouragement for those who have built a business and claimed their ER on selling it to reinvest in someone else’s business and get similar CGT treatment, but it is much wider than that.

Qualifying shares
The starting point for investors’ relief (IR) is identifying the shares that can qualify. Here, the provisions are very familiar, although drawing as much on enterprise investment scheme relief as on ER. So while the shares must be in a trading company or the holding company of a trading group (as defined by TCGA 1992, s 165A), they must also be newly subscribed for, not acquired from another shareholder, on or after budget day for cash, and not as part of a tax avoidance scheme (new s 169VP).

In order to qualify for relief, the shares must be owned for a continuous period of at least three years ending with the disposal that qualifies for relief. There is, in effect, a transitional rule that means shares issued between 17 March and 5 April 2016 do not qualify for relief unless held to 6 April 2019; this seems to be so that the tax return for 2018/19 does not have to cater for IR when it is unlikely to be claimed by more than a handful of taxpayers.

The shares must be ordinary shares in an unlisted company, although HMRC have previously confirmed for other reliefs that they do not count the alternative investment market (AIM) as a recognised stock exchange. Finally, the shareholder must not be an employee or officer of the company or of a company connected with it, nor must any person connected to the taxpayer. It can be seen that this is a wider test than might be expected, with no exemption (at least as currently drafted) for innocent connections.

The result of these rules is that shares can be split into three different categories (new s 169VB):
  • qualifying shares – which, if sold, will qualify for IR;
  • potentially qualifying shares – which have not yet been held for long enough, but will qualify for relief if the conditions are met and the shares held for three years; and
  • excluded shares – which can never qualify for relief, for example because they were acquired prior to 17 March 2016, or not by subscription.
Share identification
A surprisingly large part of the legislation (new ss 169VD-VG) deals with the identification of the shares that have been sold. This depends on whether or not a claim is made for relief.

If a claim is made, the order of priority is:
  • qualifying shares;
  • excluded shares; and
  • potentially qualifying shares, on a ‘last in first out’ basis.
If no claim is made, the order of priority is:
  • excluded shares;
  • potentially qualifying shares, on a ‘last in first out’ basis; and
  • qualifying shares.
The result is broadly to give the taxpayer the most beneficial treatment in each case; where a claim is made, it maximises the number of shares that qualify in the current disposal and preserves those that may qualify later if they are held for longer; where no claim is made, it prioritises the shares that would not qualify anyway, and preserves above all those that already qualify. However, it does mean that a claim has to be made (new s 169VC(2)(b)), with the potential for it to be overlooked and the relief to be lost.

Further provisions
The normal CGT provisions for reorganisation of share capital apply (TCGA 1992, s 127), with the new shares being treated as a share-for-share exchange, and the qualifying periods, etc. continuing. However, in some situations it may not be advantageous to do so, most notably when the acquiring company is listed and the new shares will therefore be excluded from relief. The new s 169VO therefore gives the taxpayer the right to disclaim the share-for-share exchange treatment and trigger a gain on which IR can be claimed.

Similarly, there is a provision to ‘look through’ acquisitions from a spouse or civil partner and continue the qualifying conditions and period of ownership. Provided the joint period of ownership exceeds three years, relief should be available.

There is also a new Sch 7ZB, which provides anti-avoidance provisions if the investor receives value from the company other than a ‘qualifying payment’ during the restricted period – broadly the first three years of ownership, but also extending to the twelve months prior to acquisition. A permitted qualifying payment includes a dividend or payment for goods at market value, etc., but strangely also includes the payment of reasonable remuneration for employment, which would seem to make the shares excluded in any case. There is a de minimis exemption if the value received is £1,000 or less, but this exemption is itself hedged around with anti-avoidance provisions to aggregate the amounts if there is more than one such receipt.

Planning and pitfalls
This is obviously a very useful relief, complementing ER in creating a portfolio of unlisted investments. By being, for example, a board director of some companies in which an investment is held but not others, it should be possible to get £20 million of lifetime gains brought within the 10% CGT rate. It would be unwise, however, to try and hide what is genuinely employment or a directorship by simply not taking a salary or being officially appointed to the board. Remember also the problem of connection; being the employee of one company means it is not possible to claim IR on an investment in another that is connected with it.

The most likely causes of problems will inevitably be the requirement for the shares to be newly subscribed and the non-employment requirement which subsists throughout the period of ownership, unlike the anti-avoidance provisions relating to return of value which only apply during the restricted period. It remains to be seen whether one investor can be bought out by a purchase of own shares and a new investor then put in capital by subscribing for new shares – will HMRC argue that this is tax avoidance, as the more natural transaction would be for the new investor to buy the old investor’s shares? Investors will need to remember the vital importance of not becoming employees or directors; it will sometimes be very natural for a major investor with past entrepreneurial experience to be invited to chair the board on a non-executive basis. 

Practical Tip:
If these pitfalls can be avoided there are some significant advantages. In particular, those building portfolios of AIM shares qualifying for inheritance tax business property relief may find they can also get a 10% rate of CGT on any gains made by subscribing for new AIM issues.

In his March 2016 budget, the Chancellor announced an ‘extension’ of capital gains tax (CGT) entrepreneurs’ relief (ER). The background release, however, described it as a new ‘investors’ relief’. The uncertainty about exactly how to categorise it extends to the legislation in Finance Bill 2016, which creates a new TCGA 1992, Pt 5, Ch 5 and renames it ‘entrepreneurs’ relief and investors’ relief’; the accompanying explanatory notes (surely incorrectly) makes the relief singular, ‘investor’s relief’.

It’s not surprising that there is confusion. The effect of the relief is the same as ER, in that £10 million of gains gets a CGT rate of 10% over a lifetime. It is, however, in addition to the £10 million of ER, and specifically excludes shares held by those who are officers or employees of the company. It is perhaps best seen, conceptually, as an encouragement for
... Shared from Tax Insider: Here Be Dragons? Investors’ Relief