Loss relief on shares - The importance of completing the formalities.

Loss relief on shares

Running a business generally involves a good deal of administration. This is particularly the case in respect of limited companies, which are subject to company law as well. Of course, for owner-managed and family companies in particular, there is often a tendency for company owners who are busily running the business to overlook administrative duties, and/or possibly dispense with certain formalities. For tax purposes, attention to detail can be all-important.

Were shares ‘issued’?

In Saund v Revenue & Customs [2012] UKFTT 740 (TC), the taxpayer appealed against HMRC’s refusal to allow income tax relief in respect of a loss on shares under what is now ITA 2007, s 131 (previously ICTA 1988, s 574). He had been approached in 2004 by members of his wife’s family to invest in a company (LCL) of which they were to be managers. He was appointed as the only director. His wife was the only shareholder, holding one share, and was also the company secretary. The taxpayer had no involvement in the company’s business. LCL commenced trading in April 2005. It made losses for the first two years.

By January 2007, the company was in financial difficulty. It was proposed on 12th January 2007 that the taxpayer would subscribe for 99 ordinary shares in the company for total consideration of £742,500. This consideration was satisfied by converting £742,500 of debt owed to him by the company. The minutes of a board meeting of LCL stated that the secretary was instructed to “prepare and issue a share certificate to the new shareholder and to enter the allotment in the shareholders’ register”. However, those actions were not taken. The company ceased trading on 19th January 2007, and its staff were made redundant. The company was subsequently placed into liquidation, and was eventually wound up and dissolved.

HMRC argued that the 99 shares had not been issued to the taxpayer. At a minimum, details of the shareholding needed to be entered into the company register of LCL. They pointed out that ICTA 1988, s 574 required that the shares must have been issued, and that the taxpayer's investment therefore did not qualify for relief under those provisions. HMRC also contended that even if it could be shown that the shares had been issued, they had no value at the time of issue, and therefore no loss could have been incurred. The tribunal considered whether the taxpayer had subscribed for shares as s 574

required, and whether the agreement at the board meeting was sufficient to meet the requirements of s 574. The tribunal considered the meaning of "issued" in this context, and that there was authority (in National Westminster Bank plc v IRC [1995] 1 AC 119, 67 TC 1) for the proposition that shares are issued when they are allotted and completed by entry in the company's register of members. The tribunal noted that whilst the shares intended to be issued to the taxpayer were allotted in the board meeting, the company secretary did not take the actions set out in the minutes. No entry was made in the register of members. The tribunal found that the shares had not been issued to the taxpayer.

No allowable loss

The tribunal went on to consider whether, if the shares had been issued, an allowable loss would have arisen under s 574. An allowable loss would require a disposal. For CGT purposes, a disposal arises if an asset has become of negligible value (TCGA 1992, s24(1), (2)). The tribunal noted the key words "has become" and commented that it was necessary to consider the actual financial situation of the company. The burden of proof fell on the taxpayer to show that value had been lost. The tribunal was not satisfied that the shares had any value at the time of allotment, given that it became apparent shortly after the board meeting that there was no value in the company. If the shares had no value at the time of subscription, they could not "become" of negligible value, and therefore there was no disposal of the shares in 2006/07. The taxpayer's appeal was dismissed.

Conclusion

The above case follows an earlier one (Halnan and Squire v CRC [2011] UKFTT 580), in which a share loss relief claim failed in the absence of the necessary formalities being dealt with to establish that the shares had been issued. Whilst it may sometimes be possible for business owners to deal with certain matters by informal agreement (Re Duomatic (1969) 2 Ch 365; see EIM42300), best practice will generally be to follow the relevant formalities. In addition, decisions affecting the company should be documented and retained, to record what has taken place. Aside from any legal (e.g. company law) requirement to do so, this may also be helpful in an HMRC enquiry.

Written by Ellie MacKenzie

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