Share loss relief – Satisfying the conditions for income tax relief

It is probably a sign of the present hard economic times that more taxpayers seem to be seeking tax relief for losses on investments in shares and business loans. This is reflected in the number of cases reaching the tax tribunal.

Tax relief claims for losses against capital gains are prevalent. However, such relief generally only shelters gains at rates of up to 28%. By contrast, loss relief against income potentially provides income tax relief at rates of up to 50%, and is therefore the preferred route for many individuals.

The provisions allowing individuals to claim relief for losses on disposal of shares against general income (ITA 2007, ss 131-151) are subject to a number of conditions. For example, the shares must be ‘qualifying shares’, i.e. either shares to which enterprise investment scheme relief is attributable, or shares in a qualifying trading company which were subscribed for by the individual (ITA 2007, s 131(2)).

In Halnan and Squire v CRC [2011] UKFTT S80, HM Revenue and Customs (HMRC) disallowed the taxpayers’ claims for an allowable loss for 2004-05 (under what was then ICTA 1988 s 574), in respect of a close company of which both were directors. The taxpayers appealed.

The points at issue were whether the taxpayers were entitled to claim income tax loss relief in respect of the shares. The company ceased to trade on 31 October 2004, and a liquidator was appointed. Both taxpayers had agreed to provide £50,000 to the company at a meeting in May 2004. However, they were unable to produce share certificates, and there was no contemporaneous note of the meeting in which the share purchase was said to have been discussed, agreed and allocated to them. There was no record of the share purchase at Companies House, and the directors were unable to produce the company’s register of members.

The taxpayers argued that the affairs of a small private company are often conducted informally, and that the absence of share certificates and other evidence of shares being issued was not fatal to their arguments. The tribunal accepted that a subscription of the shares was discussed at a meeting of the company, and that the taxpayers each added £50,000 to the company. However, the burden of proof in respect of the shares was on the appellants. HMRC disputed that the appellants subscribed for shares for the purposes of ICTA 1988, s 574 (the share loss relief provisions), and stated that there was no evidence to support this.

The tribunal reviewed the available evidence. The taxpayers had acknowledged that shares would only be subscribed for the purposes of the share loss relief rules if the company had an obligation to issue the shares as a result of receiving the payments. A letter (from a consultant to the company) had been provided as evidence of what had happened at the above meeting in May 2004, but the tribunal considered that at most this only evidenced what two of the three company directors intended at the time (the third director was not present at the meeting).

The tribunal held that although they were directors of the company, there was no suggestion that they left the meeting committed to provide funds to the company, nor that the company was bound to issue further shares to them upon receiving payment, as certain other matters remained to be resolved, including the position of the third director and the raising of further funds required from third parties. The taxpayers' appeal was dismissed.

Close companies

The taxpayers certainly had a point when arguing that small ('close') company matters are often dealt with on an informal basis. That has certainly been my experience of dealing with such companies over the years. Unfortunately, the lack of documentation such as board minutes or written agreements has the potential to cause difficulties, as illustrated in the above case.

HMRC cited the case National Westminster Bank PLC v CIR as providing guidance on what constitutes the ‘issue’ of shares (the inference being that shares are issued when allotted and recorded in a share register). However, that case concerned a public limited company. The tribunal in Halnan and Squire commented in the context of a small company. “We can see that a degree of informality is to be expected compared with say, the company whose shares were relevant in the Natwest case.”

The taxpayer had argued that Blackburn and anor v RCC [2009] STC 188 (an Enterprise Investment Scheme case) was helpful and relevant, as it considered the meaning of ‘issue’. The taxpayer in that case made a number of payments to a company. The Court of Appeal had to consider the status of those payments, and decide whether they were made for the allotment of shares.

The tribunal in Halnan and Squire distinguished the facts of that case on the basis that in Blackburn there had been a prior course of share dealing, and the taxpayer had taken advice from his accountant about making payment for the shares. However, in Blackburn the taxpayer's initial payment to the company prior to the history of share dealing and before taking advice from his accountant was held not to be eligible for relief. The tribunal in Halnan and Squire considered that the payments had a similar profile to the non-eligible payment in Blackburn.

Thus if making a claim for share loss relief (or indeed any claim for relief) it is clearly important to ensure that there is sufficient evidence to substantiate the claim. Such attention to detail can easily be overlooked in the case of small, family or owner-managed companies, but could be crucial to a claim.

The legislation allowing relief for losses on the disposal of shares against general income can be difficult, depending on the circumstances. Attention to detail is important not only in terms of the company's administration, but also in ensuring that the relief conditions are satisfied and a valid claim is made.

This article is accredited to Mark McLaughlin for the ICPA

http://www.icpa.org.uk/

Mark McLaughlin CTA (Fellow) ATT TEP

 

Written by Ellie MacKenzie

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