Tax issues of transferring shares
By Bethany Barrett, Last updated: 2023-01-11 (originally published on 2022-05-12)
If you are considering transferring shares, either as a prospective seller or buyer, you likely have plenty on your mind. From evaluating the reasons behind your decision to how to go about the transfer process, transferring shares can be a complex process. But there’s one aspect you really can’t afford to forget: Tax issues.
While tax issues of share transfers fall mainly on the seller of the shares, there are also consequences for the buyer, making the tax issue important to all parties involved.
Keep reading to find out:
- Who has liability for what tax
- Current tax rates
- Potential exemptions and reliefs lessen or even negate the tax burden incurred upon a share transfer.
This article is intended as a guide only. Professional advice regarding tax issues should be sought before transferring shares.
Tax implications for the seller of shares where the seller is an individual
If the seller of the shares is an individual, the sale of the shares will likely give rise to a chargeable gain subject to Capital Gains Tax (‘CGT’). The rate of tax applied to the gain will depend on the seller’s income tax band.
Generally, basic rate taxpayers will pay CGT on any gain from the sale of shares at 10%, while higher and additional rate taxpayers will pay 20% on any chargeable gains.
To calculate the amount of chargeable gain made on the sale of the shares, any allowable expenditure is deducted from the consideration received.
Allowable expenditure includes the costs incurred when selling the shares (for example, legal costs of executing the stock transfer forms) and any initial and subsequent expenditure associated with the shares. Initial expenditure encompasses the base cost of the asset to the seller and any incidental costs of acquiring the shares.
Subsequent expenditure is more limited, including only sums involved in establishing, preserving, or defending title to the shares and any expenditure associated with increasing the value of the shares.
Share sales between connected persons
The sum of the consideration received by the seller will not be used to calculate the chargeable gain in two circumstances: when the sale is between ‘connected persons’ (meaning any relatives, spouses of relatives, companies under common control, or business partners) or between unconnected persons but at an undervalue (noting that this must be a genuine undervalue and not merely a bad bargain on the part of the buyer). Here, the market value of the shares at the time of their sale is used instead of the sum of the consideration received.
Another critical aspect to note when considering the amount of any chargeable gain here is whether the seller retains the right to additional consideration upon specified eventualities (commonly called an ‘earn-out’ clause). This further amount may result in additional tax liability further down the line, so professional advice should always be sought before agreeing to such a clause.
The good news is that several CGT exemptions and reliefs are available to individuals.
Firstly, there is the Annual Exemption which for 2021/22 stands at £12,300. The simplest of tax reliefs, this allows individuals domiciled in the UK to make chargeable gains of up to £12,300 without incurring any CGT liability.
CGT liability is removed entirely when the sale of shares is between married couples, civil partners, or is a gift to a charity. The catches here are that couples have to have lived together at some point in the last year, and shares must be gifted to a charity instead of merely sold at an undervalue. For most people looking to benefit from this exemption, these are easy requirements to meet, and therefore CGT is often escaped from using this mechanism.
If the shares are given away as a gift (rather than merely being sold at an undervalue), Gift Hold-Over Relief may apply. While this removes CGT liability on any deemed gains for the seller, it will result in a greater liability for the recipient of the gift when the shares are sold again (unless they also utilise this relief).
This is because the original base cost for the seller is held over to act as the buyer’s deemed base cost, meaning that their overall gain will be increased on any future sale. For this reason, both parties have to make the joint election for Hold-Over relief to apply.
Death of share seller
Another example where CGT liability is removed comes when the share transfer arises as a result of the death of the seller. Just as in the couples exemption detailed above, no chargeable gain is deemed to have been made. The literal gain made on the transfer of the shares to the personal representatives/ executors of the seller’s estate is said to benefit from a ‘free uplift on death’.
CGT liability may be significantly lessened where an individual has also made a capital loss in any given year. As any liability is levied against total chargeable gains made in any given tax year, any corresponding capital losses will serve to reduce this overall figure.
Business Asset Disposal Relief (BADR)
Finally, the rate at which CGT is levied on individuals may be lowered to 10% regardless of the income tax status of the seller where Business Asset Disposal Relief (‘BADR’, previously known as Entrepreneurs’ Relief) or Investors’ Relief (‘IR’) apply. These are more complex reliefs, and specialist tax advice should be sought regarding them.
Generally, BADR is applicable when the seller is both a shareholder and employee of the company, and IR is used by sellers who have held shares in unlisted trading companies for at least three years prior to the sale. Both reliefs are subject to a lifetime limit for each individual, which currently stands at £1m for BADR (noting that this was higher in previous years, meaning that some individuals have benefitted from BADR for sums greater than this) and £10m for IR.
Tax implications for the seller of shares where the seller is a company
As a company, any financial gain made on the sale of shares will be subject to Corporation Tax, which currently stands at a rate of 19%.
‘Company’ includes limited companies, most unincorporated associations, and any foreign companies with a UK physical presence.
The amount of chargeable gain here is found by subtracting any allowable expenditure, indexation allowance, and any applicable capital/ trading losses from the sale proceeds.
Allowable expenditure bears the same definition as for individual sellers (see above). While indexation allowance was abolished in 2008 for individuals, it still applies to corporate sellers, albeit with decreasing value given the freeze on the RPI factor used in the calculation since 2018.
Similarly to individual sellers, it is important to note that any ‘earn-out’ clauses may also result in additional tax liability for corporate sellers.
While such clauses may sound like a good idea, it is never pleasant to be hit with an additional unexpected tax bill further down the line, especially given that many of the exemptions and reliefs detailed won’t apply to this additional liability.
Substantial Shareholding Exemption (‘SSE’)
For corporate sellers, the most important exemption to corporation tax arising on share sales to know is that of the Substantial Shareholding Exemption (‘SSE’).
If the shares are in a trading company, have been held by the seller for at least 12 consecutive months in the six years prior to the sale, and represent at least 10% of the issued share capital of the company, SSE automatically applies, and all corporation tax liability arising from the share sale is completely negated.
If SSE does not apply to the sale, it is worth considering whether there is a ‘bona fide’ commercial reason for any of the price paid for the shares to be in paper form (for example, in loan notes or in shares in a corporate buyer).
If there is such a reason and the shares being sold represent at least 25% of the issued share capital of the company, then either holdover (in the case of consideration in the form of shares) or rollover (where the consideration is in the form of loan notes) relief may apply to the sale, enabling the seller to defer any tax liability due on this part of the consideration until a later date.
Deducting trading losses
The ability to deduct capital or trading losses from any chargeable gain arising on the transfer of shares can significantly reduce the overall corporation tax bill due. To set off a loss, include the relevant details in the Company’s Tax Return.
Trading losses can be set off against chargeable gains made in both the same account year and against gains made in the previous accounting year (provided that the company has carried on the same trade across both years).
Note that there has been a temporary extension to how long trading losses can be carried back from one year to three years for losses made in the accounting periods ending between 1 April 2020 and 31 March 2022 as Covid-19 relief measures.
Losses must be offset against gains made in later years before being carried back further, and losses carried back past one year are subject to a £2 million cap.
Offsetting trading losses
Trading losses unused to offset gains made in the previous year(s) will automatically be carried forward to offset gains of up to £5 million (the ‘Deductions Allowance’) and 50% of taxable profits above this amount (the ‘Loss Restriction’) generated during each accounting period.
However, these limits apply to offsets by both trading losses and capital losses collectively. Equally, if the company is part of a group of companies, these limits apply to the whole group and not just to each individual company.
The good news for group companies is that trading losses can often be transferred between companies within the group, allowing the company selling the shares to offset any losses made by another company within the group and lower the tax liability arising from the share sale in this way. If the test for a company being deemed as part of a group for tax purposes is not met, consider whether Consortium Relief may be applicable instead.
The rules concerning offsetting capital losses (such as losses made on previous share sales, for example) differ from those governing trading losses. Any capital losses made by a company can be set off against any capital gains arising in the same accounting period, but the losses cannot generally be carried back to gains made in previous years.
Capital losses can be carried forward indefinitely until the loss is fully offset; however, a claim must be made to HMRC within four years to crystallise the loss. If the capital losses are carried forward, they are subject to the Deductions Allowance and Loss Restriction detailed above.
Finally, it is also possible to offset any terminal losses or property income losses. These are more specialised, and professional advice should be sought if these reliefs are being considered.
Other tax implications
While CGT and Corporation tax are the two most notable taxes encountered during the share transfer process, you should also be aware of Stamp Duty/ Stamp Duty Reserve Tax and Inheritance Tax.
If the share transfer is electronic, Stampy Duty Reserve Tax will be due; if the transfer takes place using stock transfer forms, Stamp Duty liability will arise if consideration for the shares is over £1,000. The current rate of both these taxes stands at 0.5%.
While legislation does not state which party is responsible for this liability, it is usually the buyer who pays any sums due. This is because it is the buyer who primarily suffers from a failure to pay the tax. For example, the company secretary can refuse to update the Register of Members and will not issue a share certificate unless the tax is paid and the stock transfer form is duly stamped.
Inheritance tax is a complicated issue by itself, and its application to the transfer of shares is no exception. The most important point of application here concerns Potentially Exempt Transfers (‘PETs’).
The transfer of shares during a person’s lifetime to another individual acts as a PET, meaning that inheritance tax will be charged if the seller dies within seven years of making the transfer.
Taper relief may be applicable if the seller’s death comes between three and seven years after the transfer. However, the potential impact of inheritance tax becoming due is still an important consideration when considering a share transfer.