We’re often asked about the consequences of share movements within a business.
Whether they’re from original founder to ‘co-founder’ to satisfy a previous handshake, as part of contractual agreements, or to existing and new employees, there are considerations you need to make.
Within this blog we’ll cover what you need to know about gifting shares, as well as what to watch out for. Trust us… the danger lurks within!
First things first
If your business is trading, it has a value and when a business has value, so do its shares! Meaning the tax consequences of any share transfer are based on the market value of the shares, not the actual price paid.
This means there are two questions to consider.
What might the market value be? Along with Which taxes intrude on what is commercially desirable?
Market value first! Although there are several scientific methods for determining value, in the SME world (particularly for early-stage businesses), it would be a fair value agreed between the seller and an independent buyer.
So, how do we determine this? There are a number of things to consider:
- The shareholding percentage being transferred
- Comparative rights and restrictions associated with the shares
- The profitability and financial stability of the company
But there’s often an elephant in the room – the founders would like this settled quickly, because they are in negotiations for a pre-seed or seed raise. This is potentially (very probably) a material factor in the valuation, as indeed a value will be placed on the share transfer or issue during the raise negotiations.
You cannot argue that the value is negligible if you’re also in discussions to let an investor take 8% of your business for £500k.
Which brings us to our first bit of advice
If you’re a start-up and want to tidy up your share structure between founders, do so when pre-revenue and before any serious investment discussions get going!
If we transfer some shares, and there is a value, what does that mean?
It means we move into the snappily titled world of employment related securities legislation.
What on earth is that? It’s generally anti-avoidance legislation to ensure that income tax isn’t dodged by paying employees in shares rather than through PAYE. ‘Sweat equity’ is actually ‘share-based payments’.
There’s too much to cover within a blog and suffice to say, it’s complicated and has actually been described as ‘a dog’s dinner’ by a hugely respected tax commentator.
The gist is that the gifting of shares or options is deemed to be a reward for employment and is therefore taxable.
An income tax liability arises if the shares are ‘restricted’, for example: there is a condition in a shareholder’s agreement over what happens to the shares if an employee leaves.
The tax liability may arise when the share/options are granted, when a restriction is lifted (for example, if it is time-based) or when the shares are sold.
This brings us to our second bit of advice
Do your homework, check with your legal and tax advisers before proceeding here. The situation may need them to work in tandem before you can properly understand the tax consequences.
Do I need to declare share transfers to HMRC?
There is a legislative requirement to report almost all instances of employee-based share movements to HMRC. The reports are submitted online through the gateway and they have a deadline of 6th July each year – following the end of the tax year.
If you’re completing your first return, be aware that setting up access to the reporting portal may take some time.
Which brings us to our third and final piece of advice
Progress the report as early as you can following the tax year end. Don’t leave it until the last minute, you may miss the deadline and land yourself with a penalty.
Need more advice?
We’d be more than happy to have a chat with you about gifting shares and the consequences! We can also help make sure you get it right and know what to expect! Get in touch.