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My UK resident and domiciled client owns 11% of the equity in a company incorporated outside the European Community. He may have an opportunity to sell the shares to the company.
I believe that the provisions which subject distributions to income tax do not catch the purchase of own shares by foreign companies, and therefore the gain in my client's hands would be taxed to capital gains tax. Is this the case?
I have referred to ITTOIA 2005, ss 383 and 402 in particular. The agreement for the purchase of the shares at market value arose in connection with my client's employment and was made in the summer of 2002, although the documentation was not completed until September 2003, at which time payment was made.
Readers' thoughts on this subject would be gratefully received as I do not wish to be caught out by an unexpected liability.
Query T16,729 – Marco.
Reply by Tyke.
The 'purchase of own shares' legislation specifically refers to UK companies and therefore your client is outside these rules. Whether a capital reduction or buyback of non-UK shares is treated as income or capital depends on the provisions of the local corporate law applicable, see Rae v Lazard Investment Co Ltd 41 TC 1.
The date of disposal for capital gains tax purposes is the date on which an unconditional contract was entered into. This may also depend on local corporate law which may stipulate the documentation required (if any) to create an unconditional contract for a company to buy back its shares.
If the employment itself was within the scope of UK tax, then the tax rules for employment-related shares may also need to be considered.
Under the circumstances I would probably take advantage of HMRC's COP10 procedure prior to submitting his tax return.
Reply by Cagey.
This is definitely a case where, for three reasons, I would strongly recommend that Marco obtain specialist advice. First, I would assume that the figures in question are relatively large. Secondly, knowledge of the company law of the overseas jurisdiction might be pertinent. Thirdly, the rules on employment-related securities in ITEPA (especially following their mutilation by FA 2003, Sch 22 to and their further amendment by subsequent Finance Acts) are a minefield. These provisions are relevant as the opportunity to acquire the shares came about by reason of the client's employment (see ITEPA 2003, s 421B).
It is not just a case of the client potentially facing an unexpected tax liability; Marco must also ensure that his professional indemnity insurer is not similarly exposed.
A further difficulty that arises in respect of this response is that Marco provides very few details. We are not told whether the disposal will give rise to a gain or loss, the overseas jurisdiction is not specified and we do not know the residence status of the company involved. Consequently, this response will give only a general overview of the main relevant issues.
When a company purchases its own shares from a shareholder, the consideration for the shares is a distribution by the company (TA 1988, s 209). So, unless there is a fundamentally different régime in the overseas jurisdiction, the payment by the company in this case will fall within the meaning of 'distribution' as far as the Corporation Tax Acts (and, so far as is relevant, the income tax legislation) are concerned.
In certain situations, the legislation permits such purchases to be treated as not being a distribution so that the disposal falls to be taxed under the capital gains tax rules. However, from the limited facts provided, it appears that the capital gains tax route would not be available to Marco's client — in particular the requirement in TA 1988, s 220(5) (requiring the shares to have been held for five years) does not appear to have been met.
Ordinarily, any income tax charge arising on a company distribution is taxed under ITTOIA 2005, s 383. However, this provision will not apply in this case unless the company (although incorporated overseas) is resident in the UK under the central control and management test. Marco refers to ITTOIA 2005, s 402, but that applies only to dividends from non-resident companies and not to other forms of distribution. A charge to income tax will nevertheless arise under the sweep-up provisions in s 687.
Finally, supposing that there is a possibility of a charge under both ITTOIA 2005 and ITEPA 2003, it is necessary to refer to the priority rules set out in ITTOIA. If the company is resident in the UK, then s 366 provides that ITTOIA takes precedence over ITEPA. However, the opposite result arises if the company is not UK-resident. In that case, s 575(4) provides that the charge under ITEPA displaces the ITTOIA charge.
