In Castledine v HM Revenue and Customs the First-tier Tribunal held that deferred shares with no voting rights, no dividend entitlement and no realistic expectation of a distribution on winding up formed part of the ordinary share capital of a company.
Accordingly, the director who held 5% of the voting rights and non-deferred ordinary shares held, for the purposes of entrepreneurs’ relief, only 4.99% of the ordinary share capital and thus did not qualify for relief. However unfair this ruling may seem, it demonstrates the principle that the judiciary is not at liberty to change the legislation. Companies that have deferred shares in issue will need to review the impact on the shareholdings of employees and directors and, if necessary, consider either their cancellation or conversion to preference shares with minimal entitlement. However, this judgment does not mean that deferred shares issued for the sole purpose of enabling the holder to qualify for relief would achieve that objective.
The planning point which emerges is therefore that where a company has classes of share that are no longer required and they have no significant rights, those shares are bought back for a nominal sum. This will prevent shareholders overlooking those shares when considering entrepreneurs’ relief.
It might also be thought prudent for individuals to have just over 5% rather than being issued with shares giving them exactly 5% of the shares and votes.
The decision may be found at https://tinyurl.com/zbe65jk
Counsel for the appellant argued that Parliament could not have intended shares with no economic value to rank equally with participating, voting shares. However, the tribunal could find no ambiguity in the drafting of the s 989 ITA 2007 definition of ordinary share capital: “all the company’s issued share capital (however described), other than capital the holders of which have a fixed right to a dividend at a fixed rate but no other right to share in the company’s profits.” Similarly, s 169S TCGA 1992 requires the holding of at least 5%, not approximately 5%.
