October 29th, 2012 / Insight posted in

Tax on sale of my shares to firm

ET writes: My business partner has agreed to buy me out when I retire. He will use company funds to buy back my shares, with 50% payable initially and the rest over five years. Do I need to pay tax on all the shares at the outset?

The treatment of the money will depend on whether it is regarded as capital or income, writes Jon Sutcliffe, partner at Kingston Smith LLP.

When a company buys back its shares, HM Revenue & Customs approval is needed to treat the proceeds as capital. To obtain approval you must be able to show that the buyback is of commercial benefit to the business, which should be achievable because you are retiring. The payment will also have to be made in full.

It may be possible to structure the buyback as payment in full and to then make a loan back to the company over five years, but this approach may be more difficult. You would pay capital gains tax on the full proceeds, probably at 18% though this could fall to 10% if you qualify for entrepreneurs’ relief.

If the company failed before it paid back the loan in five annual instalments, you would suffer a capital loss on your loan to the company but you would not be able to claw back any of the capital gains tax you have already paid.

If the proceeds are taken as income, you will be taxed on the dividends. However, the tax you pay on dividends is likely to be more than that paid on a capital gain unless the dividends are small and you are a basic-rate taxpayer.