10 May 2016

Mr Castledine had claimed Entrepreneur’s Relief on a share disposal on the basis that he held the required 5% shareholding in a company to claim the relief.  However, the Tribunal found that the company’s deferred shares were considered ordinary shares which meant that the taxpayer only owned 4.99% of the shares in the company.  This prevented him from claiming Entrepreneur’s Relief.
In this case, the Tribunal considered s169S(3) and (5) of the Taxation of Chargeable Gains Act and the meaning of ‘ordinary share capital’ as defined in s989 of the Income Tax Act 2007.
In the company concerned, there had been created A ordinary shares, B ordinary shares, deferred shares and preference shares.  The issue in this case was that if the deferred shares were considered as ordinary shares within the meaning of the legislation, the taxpayer held 4.99% of the shares in the company whereas if the deferred shares were not considered as ordinary shares, the taxpayer held the required 5% shares in the company to claim Entrepreneurs Relief.  

The deferred shares had been created as a method of removing the B ordinary shares from any shareholder that either left the company, retired etc, as an alternative to the company buying back its own shares.  These shares were then transferred to an employee benefit trust.
The Tribunal analysed a case history of legislative interpretation and it was seen that the courts have sought to give effect to the obvious intention of the legislature and it is on where this would produce a ‘wholly unreasonable result’ that an alternative approach may be considered.

In light of this, the taxpayer argued that the deferred shares had none of the characteristics of ordinary shares because they did not carry any voting rights, right to dividend etc.

HMRC argued that the meaning of the legislation was perfectly clear and that there was no need for the Tribunal to look beyond the legislation when considering the classification of deferred shares and the required 5% shareholding.

The Tribunal accepted HMRC's argument that the legislation was 'perfectly straightforward, not ambiguous, and did not produce a result which was at odds with the intention of Parliament'.  Therefore, although any legislation should be given a purposive construction, it was not for the Tribunal to deconstruct legislation to insert interpretation where there had not been any and therefore this case for the taxpayer fell on that dividing line.  The Tribunal did not accept any of the taxpayer's arguments and therefore the appeal for the Entrepreneur's Relief failed.  

The Tribunal rejected the taxpayer's arguments because it found that there was nothing that made the deferred shares any different to ordinary shares because they were capable of being redeemed.  The Tribunal also found that there was no reason why it should interpret the legislation such that this case was not to be found to go against the clear intention of Parliament in drafting the legislation.  Additionally, the Tribunal were aware that interpreting the legislation in this way would create some difficult borderline cases but that Parliament had intended to create a dividing line, albeit artificial, between ordinary shares and other types of shares and the Tribunal considered that there was no need to depart from this intention in this case.  

This case is an important reminder of the strict rules that apply, not only in relation to Entrepreneur's Relief but any tax relief.  As such, similar borderline cases are likely to come up and therefore a strict adherence to the rules by a taxpayer is paramount.

For further information please contact John Barnett.

Key contact

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John Barnett Partner

  • Head of Partnerships
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  • Tax

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