A company purchase of own shares (CPOS) can be a useful ‘exit’ strategy for an individual shareholder (e.g., upon retirement), subject to certain company law requirements being satisfied.
Income vs Capital
When a company buys back its own shares from the shareholder, any ‘premium’ (i.e., payment exceeding the capital originally subscribed for the shares) is normally a taxable income distribution (i.e., like a dividend). The income tax rates on distribution income are 8.75%, 33.75% and 39.35% respectively (for 2025/26), depending on whether the individual is a basic, higher or additional-rate taxpayer. However, if certain conditions are satisfied, the individual vendor is treated as receiving a capital payment instead. The lower and main rates of capital gains tax on capital payments (for 2025/26) are 18% or 24% respectively, depending on the individual’s taxable income. However, if business asset disposal relief is available, an individual’s qualifying gains (up to a lifetime limit of £1m) are taxable at 14% (for 2025/26). Thus, in many cases, capital treatment on a CPOS will be preferred.
Does it Help the Trade?
The requirements for capital treatment on a CPOS (in CTA 2010, Pt 23, Ch 3) include conditions about the length of ownership of the shares, and the extent of any ongoing connection with the company. Because the conditions are detailed and potentially difficult, it is easy to overlook a basic requirement for capital treatment (subject to an uncommon exception not considered here) – the ‘trade benefit’ test. This requirement is that the CPOS must be wholly or mainly for the purpose of benefiting a trade carried on by the company (or any of its 75% subsidiaries). However, the trade benefit test is subjective, so the company should be prepared to satisfy HM Revenue and Customs (HMRC) that this requirement is met. The potential uncertainty caused by the trade benefit test was eased to some extent by HMRC guidance (Statement of Practice 2/82). Examples of where the test is satisfied include:
- disagreements between shareholders over the management of the company that are having an adverse effect on its trade, where the CPOS removes the dissenting shareholder;
- death of a shareholder – where the deceased’s personal representative or beneficiaries do not want to keep the shares;
- external equity finance providers wishing to withdraw their investment, resulting in the company initiating a CPOS; and
- company proprietors wishing to retire, to make way for new management (NB HMRC considers that the proprietor should generally resign as an officer; see HMRC’s Capital Gains Manual at CG58635). However, HMRC should not object if a retiring director keeps up to 5% of the company’s issued share capital for sentimental reasons.
Conversely, if the individual vendor is selling all their shares but stays connected with the company (e.g., as a board member or consultant), HMRC considers it “unlikely” that the CPOS would benefit the company’s trade, so the trade benefit requirement will probably not be satisfied. It should also be remembered that the CPOS is being undertaken for the company’s benefit, not the individual vendor’s benefit. This requirement has been the downfall of some taxpayers (e.g., see Moody v Tyler, ChD 2000 72 TC 536; Allum & Allum v Marsh [2004] SpC 446).
Practical tip
A clearance application can be made in advance to obtain certainty about HMRC’s view of the tax treatment on the CPOS (tinyurl.com/HMRC-CPOS-HS). Specialist advice before a CPOS is strongly recommended.