Case update: Income tax risks on transactions in securities

Where shareholders are extracting profits from a company, the disposal of shares will commonly give rise to capital gains within the capital gains tax (CGT) regime, subject to tax at a rate of 24% for most taxpayers. This CGT treatment is less averse to taxpayers than the dividend income tax rates of up to 39.35%, which could otherwise apply on profit extraction. This discrepancy in tax treatment is why the Transactions in Securities (TiS) rules allow HMRC to counteract tax advantages arising from transactions which seek to convert income into a capital return.

We previously commented on a First-tier Tribunal (FTT) decision (Osmond & Anor v HMRC [2024] UKFTT 378 (TC)) from May 2024 which had found in favour of HMRC, potentially extending the understood application of the TiS rules to a wider range of transactions. An appeal to the Upper Tribunal (UT) was subsequently allowed and the UT decision has now been published (Osmond and Allen v HMRC [2025] UKUT 183 (TCC)) allowing the taxpayers’ appeal and seemingly reversing some of the widening of the scope of the TiS rules put forward in the original FTT decision.

Transactions in Securities rules

The TiS rules can apply to “transactions in securities” and allow HMRC to issue a counteraction notice to tax a transaction as if it were a distribution of a company (subject to income tax as a dividend), where the transaction may otherwise be subject to lower taxation (typically as a transaction subject to CGT).

Our previous commentary on the FTT decision in this case set out in more detail the application of the TiS rules which, by way of a brief reminder, can apply where:

• A person is a party to a transaction, or transactions, in securities of a close company (other than certain transactions which result in a fundamental change in the ownership of the close company);
• The person receives “relevant consideration” in connection with the transaction and does not bear income tax on that consideration;
• One of the main purposes of the transaction is to obtain an income tax advantage; and
• A person actually obtains an income tax advantage in consequence of the transaction.

Statutory clearance can be obtained from HMRC in advance of a transaction, which can provide assurances that HMRC will not apply the TiS rules. Such clearance is therefore often recommended to give taxpayers clarity over their tax position on a potential transaction.

First-tier Tribunal decision

The FTT decision in Osmond & Anor v HMRC [2024] UKFTT 378 (TC) involved two investors who subscribed for Enterprise Investment Scheme (EIS) shares which, following a series of transactions designed to preserve their EIS status, were the subject of a share buy-back to crystalise the gains in anticipation of a potential change to the preferential EIS regime. The result of the share buy-back was that the gains were exempt from CGT by virtue of EIS disposal relief.

The primary question for the FTT had been whether there was a main purpose of obtaining an income tax advantage in entering into the transaction. The FTT had, interestingly, concluded that the taxpayers had a main purpose of obtaining the EIS disposal relief (which the investors were open in admitting) and this necessarily, even in the absence of a subjective intention, meant that they had a main purpose of obtaining an income tax advantage. The FTT had reached this conclusion as the effect of the transaction benefitting from EIS disposal relief was that no CGT was payable and the tax payable was therefore less than what would have been payable on the hypothetical distribution (i.e. obtaining EIS disposal relief necessarily resulted in an “income tax advantage”). The FTT thereafter concluded that, as the income tax advantage was a necessary result of the transaction, a main purpose of obtaining that income tax advantage was corollary to the main purpose of obtaining EIS disposal relief.

This formulation, interestingly, raised concerns for any taxpayer entering into a transaction in securities where the main purpose is to utilise a CGT relief or realise a CGT advantage.

Upper Tribunal decision

The UT, however, disagreed with the FTT’s analysis as stated above. The UT, in contrast, noted that the income tax advantage, as defined in the legislation, was the effect of the transaction as opposed to the subjective purpose. Although the transaction was entered into for the main purpose of obtaining EIS disposal relief, which in turn resulted in an income tax advantage as defined, it did not logically follow that the attainment of that income tax advantage was a main purpose of entering into the transaction. As stated by the UT, the TiS provision “does not have the effect of ‘deeming’ a main purpose to exist which does not in fact exist.”

The UT in reaching this conclusion, had drawn some inspiration from a long line of case law on the concept of “main purpose”. It did so primarily by reference to case law in the context of the unallowable purpose rule within the loan relationship provisions, which we have commented on in our previous insight Do your company loans have an “unallowable purpose”?. The reasoning of the UT in this case brings the judicial logic in line with that applied in those unallowable purpose cases, clarifying that the main purpose test requires us to look at the subjective intentions of a particular taxpayer. As the Court of Appeal had commented in the case of Blackrock HoldCo 5 v HMRC [2024] STC 740, “[o]bject or purpose must be distinguished from effect. Effects or consequences, even if inevitable, are not necessarily the same as objects or purposes.”

The UT decision will offer some relief to taxpayers who may have been concerned about the broadening of the TiS provisions based on the reasoning of the FTT in this case. As noted above, the FTT’s logic could, in theory, have applied the TiS provisions to a much wider class of transaction in securities involving a close company on the grounds that obtaining statutory CGT reliefs would necessarily result in the overall tax being  lower than the income tax exposure on a hypothetical distribution. For example, many M&A transactions are structured to meet statutory reliefs, exemptions or deferrals of CGT to meet the cash flow and commercial requirements of the transaction. Where such transactions potentially meet the conditions in the TiS provisions (i.e. included a close company and no fundamental change of control) then the FTT decision would have given HMRC scope to potentially challenge the position.

Following the UT decision, further clarity has been given that structuring transactions to meet statutory CGT reliefs and/or exemptions does not necessarily mean that the attainment of an income tax advantage was a main purpose. This will come as a relief to many taxpayers and provides assurance that commercially driven transactions should not be challenged by HMRC under the TiS provisions simply because the tax payable is less than that which would be payable under a hypothetical income distribution.

Given the differing views in the FTT decision and UT decision it remains to be seen whether HMRC seek to further appeal the UT decision to the Court of Appeal.

How can Moore Kingston Smith help?

Despite the UT’s decision providing some comfort to taxpayers by clearly distinguishing between the effect and purpose of transaction, the TiS provisions remain a broad set of anti-avoidance rules where care should be taken. There are a wide range of transactions, including M&A transactions and corporate restructurings, where taxpayers must consider the nuances of these provisions at an early stage. We would generally recommend that statutory clearance is sought from HMRC and that such clearance applications are precisely drafted to mitigate risks and delays.

Where, due to commercial pressures on a transaction, it is not feasible to obtain clearance in advance – taxpayers should obtain detailed advice on the TiS rules to understand the tax risks and the implications these may have on the transaction. In such circumstances, taxpayers may wish to consider tax risk insurance to mitigate the potential risks.

The TiS rules comprise a complex set of anti-avoidance provisions and the above is only intended to provide a brief overview of the main features. The rules can give rise to substantial and unforeseen tax liabilities, so it is important for shareholders to consider these risks and an application to HMRC for statutory clearance. If you would like to discuss these rules and how you should approach these tax risks, please do get in touch with our transactional tax experts.