Valuing employment related securities
23 March 2009
In Gray's Timber Products Limited v Revenue & Customs Commissioners the Inner House of the Court of Session provided further guidance on valuing employment related securities.
G held shares in G Group and was employed by a wholly owned subsidiary of G Group, GTP Limited. Nothing in the Articles of Association of either company provided preferential share consideration to be paid to G on a disposal of G Group however, a shareholders agreement did so provide.
In fact although G only held 5% of the total issued share capital of G Group, G was entitled, as between the shareholders, to receive 25% of the total consideration on a disposal of G Group.
Chapter 3D Income Tax (Earnings and Pensions) Act 2003 provides that where employment related securities are disposed of for more than market value the excess over market value is taxed on the employee as income tax rather than capital gains. The taxpayer did not dispute the operation of the Chapter 3D charge in principle but argued that as a matter of fact he had not received more than market value for his shares because the rights in the shareholders agreement meant his shares were worth 25% of the total consideration.
The Court gave short shrift to this argument. Rights in the shareholders agreement do not attach to the shares. Rights in the Articles of Association may well do so if they are capable of passing to the purchaser. However the rights in the shareholders agreement would not pass to the purchaser with the shares. They were merely a contractual right as between the existing shareholders of G Group.
The Court re-emphasised that when valuing the shares there is deemed to be a transaction between a hypothetical seller and a hypothetical purchaser. The hypothetical seller in this case would not necessarily have had the benefit of the shareholders agreement.
There is nothing revolutionary in the Court's reasons, however the taxpayer also argued that the best evidence of market value is what is paid for the shares in an arm's length deal. If a selling purchaser actually pays on arm's length terms a price for shares then the Court should be slow to look behind that and consider the hypothetical seller and purchaser test. The Court agreed, however, on the facts the only arm's length negotiations were as between the purchaser and the sellers as a whole, not individual sellers.
The Court stated that if there had been an agreement between the purchaser and the sellers separately the price agreed with each individual seller might require to be accepted as the market value.
Therefore, those separate negotiations will not by any means guarantee that the Court will accept different values attributed to different holdings as evidence of different market values but the case does seem to leave open that possibility and it may well be worthwhile in similar circumstances for a taxpayer to ensure that there are separate negotiations, evidenced by separate heads of terms, between the different sellers and the purchaser.