In Stephen Warshaw v HMRC [2019] TC08674 the FTT allowed an appeal against £1,158,916 of CGT: cumulative compounding preference shares were ordinary shares for Entrepreneurs' Relief.
Prior to October 2018 an individual needed to hold at least 5% of a company’s ordinary share capital and voting rights for a company to be their “personal company” and for Entrepreneurs’ relief (ER) to apply on a disposal of their shares.
- Ordinary share capital is defined (by s989 ITA 2007) for ER as “all the company’s issued share capital (however described), other than capital the holders of which have a right to a dividend at a fixed rate but have no other right to share in the company’s profits”.
Mr Warshaw owned ordinary shares, ordinary B shares and preference shares in a UK company which he sold for cash of £6,665,332 in 2013.
- His total shareholding represented 5.77% of the company. Excluding the preference shares it represented 3.5%.
- Under the company articles, the preference shares carried the right to a fixed cumulative preferential dividend of 10% per annum (the preference dividend), based on the aggregate of:
- their subscription price and
- the amount of any compounded Preference Dividends which had not yet been paid.
- The articles further said that, aside from the Preference Dividend, no other dividends or distributions should be made, paid or declared with respect to the Preference Shares
- Mr Warshaw claimed ER on his entire shareholding. HMRC denied his claim on the basis that the company was not his personal company as the preference shares were not ordinary share.
The FTT allowed the appeal; the preference shares were ordinary shares and the company was Mr Warsaw’s personal company.
The judge quickly agreed with the arguments of Mr Warshaw’s counsel that:
- Whether there is right to a dividend at a fixed rate is not to be determined on the basis of what dividends actually accrue or what actually happened but depends on the rights accorded to the shares in the Articles of Association
- The shares did not have the right to a dividend at a fixed rate because the articles provided that the computation of the dividend amounts must include any cumulative compounded unpaid preference dividends which could be a varying amount depending on the level of the company's distributable reserves.
Comment:
Whilst the taxpayer won his appeal here, the case illustrates the importance of checking share rights when assessing eligibility for ER. Following the additional requirements introduced by Finance Act 2019 this has become even more important; from 29 October 2018 shareholders must now also hold either an entitlement to at least 5% of distributable profits and assets on a winding up, or to at least 5% of proceeds on a sale of the share capital.
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