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Mark McLaughlin CTA (Fellow) ATT TEP considers some tax effects of the Companies Act 2006 procedure for reducing share capital.

Introduction

The ability of companies to reduce share capital has been simplified following changes introduced in Companies Act 2006 from 1 October 2008.

The capital reduction procedure (in CA 2006 ss 641-657) was discussed in my article Turning Extra-Stautory Concession C16 into Law, in the context of winding up companies using Extra Statutory Concession C16.

As mentioned in that article, a problem with ESC C16 is that it does not involve a formal winding up. Strictly speaking, the company’s share capital is ‘bona vacantia’ and becomes assets of the Crown, Duchy of Lancaster or Duke of Cornwall. However, in practice the Treasury Solicitor will allow share capital up to £4,000 to be repaid without seeking recovery as an unauthorised distribution. A private company with share capital in excess of £4,000 could therefore consider reducing its share capital to within the above limit by applying the capital reduction procedure and meeting certain conditions.

The rules may also be useful in other circumstances, such as repaying share capital that the company no longer wants or needs.

As a result of secondary legislation (Companies (Reduction of Share Capital) Order, SI 2008/1915), the amount of the share capital reduction is treated as a distributable reserve, which may perhaps be useful if the company’s reserves were previously negative.  

Pitfalls and Limitations

However, it should be noted that the capital reduction procedure only enables the company’s share capital to be repaid. It does not allow for receipts in excess of the original subscription cost. A company purchase of own shares may need to be considered in such circumstances. In addition, in a recent Taxation article, David Jeffery expressed the view that in certain circumstances a reduction in share capital may constitute a ‘transaction in securities’ and that a clearance application should therefore be made to HMRC under ITA 2007 s 701.

It should also be noted that a solvency statement must be made by the company’s directors as part of the Companies Act 2006 rules. The directors must have reasonable grounds for the opinions expressed in the solvency statement. Otherwise, a criminal offence is committed, which could result in a prison sentence. The whole process should therefore not be taken lightly.

The new procedure is generally helpful, easier and probably less expensive than the alternative solution of applying to the Court to reduce share capital (although some private companies previously registered as unlimited to allow share capital to be repaid without going through the Court procedure). However, as with most tax and company law issues, careful attention is needed to the procedure.

The above article is reproduced from Practice Update (January/February 2010), a tax Newsletter produced by Mark McLaughlin Associates Limited. To download current and past copies, visit: Practice Update.