You’re selling shares in a company. The company owes some debt – it might be owed to you or to a third party including a bank. The headline price you’ve negotiated with the buyer is on a ‘debt-free’ basis.
It’s a very common sort of transaction and not at all problematic if dealt with properly. ‘Dealing with it properly’ might mean contractually reducing the ‘headline price’ by the amount that the buyer will need to inject into the company to repay debt: or it might mean your subscribing immediately before sale for additional share capital adequate to repay debt. However, not dealing with it properly can cost a lot in additional tax.
As Ignatius Tedesco ( UKFTT 171 (TC)) discovered.
Mr Tedesco and his family owned all the shares in a company whose sole asset was a property worth some £1.5m. The company owed some £700,000 to the bank, secured by floating charge. A buyer agreed to pay £1.5m for the shares on terms that the charge would be discharged.
£700,000 of the purchase price paid by the buyer to the vendors’ solicitors was duly used to pay off the bank and never reached the vendors.
In computing the capital gain on disposal, the £700,000 was claimed as being an ‘incidental cost of sale’. HMRC demurred: Capital Gains Tax would have to be paid on £1.5m (minus the cost of originally acquiring the shares and the legal expenses of sale – both relatively trivial in amount).
Regardless of what a layman might have said was or wasn’t ‘fair’, HMRC were of course right as a matter of law. None of the arguments put by the appellants held water:
- We didn’t receive the money:
- No: but your solicitors did, and they used the money under your instructions to repay the debt
- We could easily have agreed a different sale agreement which would have avoided the problem:
- Indeed you could – but you didn’t
- The loan was used to buy and upgrade the property so repaying it was expenditure ‘on the shares’:
- There’s no evidence as to what the money was used for (and even if there had been, the money wouldn’t even then have been spent ‘on’ the shares)
So the £700,000 wasn’t deductible in computing the gain.
There’s an interesting further point not raised in the case. When the company received the money to pay off the bank, what did that represent? On the face of it, the effect was simply to replace the debt owed to the bank with a debt owed to the vendors: certainly not what the buyers had in mind. So was it a gift to the company? If so, what was the correct accounting and tax treatment? An interesting quandary, solved by the company – according to its subsequently filed accounts – by accounting for it as share premium.
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