BPP University College Of Professional Studies Limited (BPP)
Notes on Private Acquisitions for the LPC at BPP University. These revision notes summarise key SGS course content in a way that is easy to understand and helped me achieve 90% on the PA exam.
BPP University College Of Professional Studies Limited (BPP)
BPP University College Of Professional Studies Limited
Private Acquisitions
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BPP LPC – Private Acquisitions Exam Notes
PART 1 – Tax & Group Structures
Tax Issues on a Share Sale
Tax Implications for the Seller
- Corporate seller – potential liability to corporation tax on the chargeable gains arising on the
sale of the shares.
- Individual seller – potential liability to capital gains tax (CGT) on the chargeable gain arising
on the sale of the shares.
Sale by a Corporate Seller
Substantial Shareholding Exemption (SSE)
- An important tax exemption that may apply when a company sells shares in another company.
- In order for the seller to qualify for SSE, the following conditions must be satisfied:
1. The selling company must have owned (as opposed to be disposing of) at least 10%
of the ordinary share capital of the company whose shares are being sold, for at least
12 consecutive months in the 6-year period before disposal; and
2. The company whose shares are being sold must be a trading company or the holding
company of a trading group or sub-group, throughout the period from the beginning
of the 12-month period mentioned above until the date of sale.
- If these conditions are satisfied then any gain on the sale of the shares is not treated as a
chargeable gain and therefore no corporation tax will be payable by the corporate seller as a
result of the share sale.
- A trading company is a company carrying on trading activities which do not include to a
substantial extent activities other than trading activities and trading group is defined similarly.
Tax Deferral on share-for-paper Exchange
- Buyer may issue shares in itself or loan notes to the seller.
- If SSE is not available, the seller may still be able to obtain a tax benefit if the consideration is
in the form of paper. In these circumstances, where certain conditions are satisfied, the
seller’s tax liability is effectively deferred until a later date = rollover relief.
- The rationale for the tax deferral is that where the seller has received consideration otherwise
than in cash, it does not have any cash proceeds with which to pay tax on any gain arising on
the disposal.
- Conditions for Tax Deferral (only applies on a share sale):
1. Generally, the buyer must hold, or, as a result of the exchange, will hold, over 25% of
the target company’s ordinary share capital; and
2. there must be a bona fide commercial reason for structuring the payment in
shares/loan notes and it must not form part of a tax avoidance scheme.
- Where the consideration is in the form of shares in the buyer, the seller’s tax liability will be
deferred where just the 2 conditions above are satisfied. However, where the consideration
is in the form of loan notes, there is an additional (non-statutory) condition:
3. Loan notes should not be redeemable until at least 6 months after date of issue.
- For tax purposes the seller is not treated as disposing of the shares in Target. Seller therefore
does not pay tax on the sale of the Target shares. Instead, Seller is deemed to have acquired
the shares in Buyer at the same time and at the same price as the original shares in Target.
This type of deferral mechanism is called “rollover” and has two tax advantages for the seller:
o The seller’s tax liability on the sale of the Target shares is effectively postponed until
Seller sells the shares it has been issued in Buyer; and
o Seller’s chargeable gain for tax purposes is calculated as the difference between the
amount it originally paid for the Target shares (base cost) and the amount for which
it sells the shares in Buyer – the value of the Target shares on the date of the actual
share sale is irrelevant. This means that if Seller’s shares in the Buyer decrease in
value, Seller will pay tax on a smaller gain that it would have done if it had received
consideration for the Target shares in cash.
à As a general rule a seller will only be prepared to accept consideration in the form of shares in the
buyer if the buyer is a listed company since then its shares will be freely marketable.
- Where the seller receives loan notes instead of shares, the tax on any gain is deferred until
the loan notes are redeemed, sold or otherwise disposed of.
Relationship between SSE and share-for-paper exchange: It is important to note that if the conditions
for SSE are satisfied then, even if consideration is in paper, no chargeable gain will have arisen on the
sale of shares for the seller, so there will be no benefit to be derived from the tax deferral on share-
for-paper exchange. If conditions for SSE are satisfied the seller will have the benefit of SSE whether
the consideration is paid in cash, shares or loan notes, so whereconsideration is paid in shares the
base cost of the shares issued as consideration will be their market value at the date of issue.
Pre-Sale Dividend
- It is also possible to reduce any corporation tax liability arising on the sale of a company if the
Target declares a pre-sale dividend. Lower consideration and lower chargeable gain.
- No corporation tax liability will generally arise on a dividend paid to a UK company.
Sale by an Individual Seller
- As SSE is only available to companies, any liability to tax on a chargeable gain realised by an
individual on a share sale cannot be avoided altogether – it can only be reduced or deferred.
Entrepreneurs’ Relief (ER)
- ER may apply to reduce rate of CGT liability on share disposal by an individual who is a higher
or additional rate taxpayer where the following conditions are satisfied:
o Target company must be a trading company (or holding company of a trading group);
o The individual disposing of the shares must be an officer or employee of the target
company (or another company in the same group);
o The individual must hold at least 5% of the ordinary shares in the target company,
carrying at least 5% of the voting rights;
o The individual must be entitled to at least 5% of :
§ Profits available for distribution and assets on winding up of the company; or
§ Disposal proceeds if the company is sold; and
o All conditions must have been satisfied for 2 years immediately prior to disposal.
, - When ER applies to a particular gain realised by an individual who is a higher or additional rate
taxpayer, it reduces the rate of CGT chargeable on that gain to 10%.
- Total amount of gains on which an individual may claim ER during their lifetime is limited,
currently to £10 million of cumulative gains.
Tax Deferral available on share-for-paper exchange.
Relationship between ER and share-for-paper exchange:
- If the seller disposes of shares in circumstance where he would have qualified for ER, but
receives shares or loan notes issued by the buyer, then the tax deferral applies unless the
individual seller elects otherwise.
- The problem is that when the individual sells the new shares or redeems the loan notes, he
will only get ER if the ER conditions are fulfilled in relation to the new shares or loan notes
issued by the buyer – very unlikely.
- à Elect out of the tax deferral and instead pay tax on the original share sale.
Pre-sale dividends: Reduced CGT liability BUT taxed at higher dividend rate (after £2,000 dividend nil-
rate) for income tax.
Deferred Uncertain Consideration
- It is possible to structure a transaction so that the seller does not receive all the consideration
at the date of completion. Where the amount has not been agreed and is dependent on some
eventuality after completion, such as the future profits of the target company, it is known as
deferred uncertain consideration. e.g. an earn-out.
- Taxation of deferred uncertain consideration. Marren v Ingles – Right to receive additional
consideration on the happening of a specified event was a ‘contingent right to future
consideration’ and that contingent right was, in effect, a chose in action.
- Tax effect: At completion a seller who is to received deferred uncertain consideration is
treated by HMRC as receiving both:
o The sum actually paid on completion; and
o A sum equal to the current value of the right to receive further consideration.
- Both A and B are taxed at completion in hands of the seller. When further consideration under
the earn-out is received at some point after completion, the seller is treated as disposing of
the chose in action, in return for the further consideration. Potential chargeable gain.
- NB where a corporate seller qualified for SSE on a sale of shares it is not likely to want to get
involved in an earn-out arrangement as the chose in action disposal does not qualify.
- For an individual no benefit of ER.
Retention Accounts
- A retention is where part of the consideration is paid into a retention account held under the
joint control of the buyer and the seller at completion instead of being paid to the seller.
- A retention account is most frequently used to provide the buyer with security in the event
that it might wish to claim against the seller under the terms of the acquisition agreement.
- For tax purposes HMRC will treat the seller as having received the total amount of the
consideration including the amount held in the retention account on the date of completion,
and will tax the seller accordingly.
- In the event that the seller does not actually receive the whole of the consideration because
the buyer does make a successful claim and is able to recover monies from the retention
account, this is treated as a subsequent adjustment to the consideration.
- When drafting indemnities it is important to bear in mind the case of Zim Properties Ltd v
Proctor – indemnities should be given in favour of the buyer, rather than the target, even
though it is the target that would suffer the loss if the potential liability addressed by the
indemnity crystallised.
o Right to sue is an asset for CGT purposes – chose in action. Resulting indemnity
payment taxed as a capital gain if given in favour of target.
- However, where an indemnity payment is paid by the seller to the buyer, HMRC have stated
that the payment will be treated as an adjustment to the consideration in the same way as a
payment under a warranty.
Tax Implications for the Buyer on a Share Sale
- Buyer will simply have to pay stamp duty on the stock transfer form used to transfer the
target’s shares.
- The value of the target will be affected by its actual and potential tax liabilities so the buyer
will need to carry out a full investigation into the target’s tax history.
- The fact that the target is changing hands may itself have tax implications if the target is
leaving a group of companies (SDLT clawback – this can arise where the target company
received land as a result of an intra-group transfer and it leaves the group within three years
of the receipt of that land).
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