Where the relevant conditions are met, the Substantial Shareholding Exemption (“SSE”) exempts gains arising on a qualifying disposal of shares from a charge to corporation tax.
The SSE was originally introduced in Finance Act 2002, but HMRC are now broadening its scope by loosening some of the conditions for qualification in Finance Bill 2017. The new rules take effect for disposals on or after 1 April 2017.
Generally speaking, the SSE is available where, at a minimum, an investor company (“P”) holds an investment of at least 10% of the ordinary share capital of an investee company (“S”)*, and is beneficially entitled to at least 10% of:
- the profits available for distribution to equity holders, and
- the assets available for distribution to equity holders on a winding up
Prior to the current loosening of the rules, P and S would both have needed to be members of a trading group immediately prior to and after the disposal of shares in S. And P would have needed to have held the S Shares for a continuous period of twelve months in the two years before disposal. In which case any gain arising on the disposal would be exempt from corporation tax. Similarly however, where the relevant conditions are met, a loss arising on disposal of the investment in S would not be allowable.
The loosening of qualifying criteria is in respect of the following:
- Firstly, the extension of the holding period prior to disposal from two years to six years and the removal of the requirement for the investee company to be trading immediately after disposal. Therefore, if an investee company is set up by an investor company, but later diluted in its shareholding, then gains which would have been taxable because too long a period had passed since the 10% threshold had lapsed could now be outside the scope of corporation tax. Equally, investor companies which dispose of qualifying investments will not be so dependent on the subsequent owners to maintain the company’s trade in order to ensure the eligibility of their relief as, provided the disposal is to an unconnected party, the subsequent trading criteria has been removed.
- Secondly, the investor company will no longer need to meet any trading requirement either individually or as part of a wider trading group (unless the sale is to a connected party.)
Exemptions have also been introduced for certain qualifying institutional investors, including situations where investments are held through partnerships. However, unfortunately, the revised legislation does not appear to have clarified the position for other situations where shares are held through partnerships. Neither has the impact on entities without share capital been considered.
The Substantial Shareholding Exemption is an important planning tool in organising the business activities of trading groups, particularly international trading groups with their head office in the UK, as the legislation does not require that the investee company operates in the UK for the relief to apply.
[* Given the requirement that the Investor company should be entitled to more than 10% of the assets of the company on winding up it is important to consider any debt finance in the Investee company too.]
The information in this article is believed to be factually correct at the time of writing and publication, but is not intended to constitute advice. No liability is accepted for any loss howsoever arising as a result of the contents of this article. Specific advice should be sought before entering into, or refraining from entering into any transaction.