Entrepreneurs’ relief (ER) is widely misunderstood by people who don’t read the legislation. For ER to apply to a gain arising from the disposal of shares or securities, the company must be the individual’s personal company for a full 12 months ending with the disposal date, or the date the company ceases to trade (if earlier).
A company is the taxpayer’s personal company if he holds at least 5% of the ordinary share capital and at least 5% of the voting rights exercisable by virtue of that shareholding. This dual condition is relaxed if the shares were acquired by way of qualifying EMI options acquired on or after 6 April 2013.
A further relaxation is proposed where the shareholding is diluted below the 5% threshold as a result of issuing more shares to new investors on or after 6 April 2019. This change in the ER rules will be introduced by FA 2019.
The legal definition of ordinary share capital is: “all of a company’s issued share capital, except fixed dividend shares which have no other rights to share in the company’s profits,”. This definition means that the taxpayer must hold 5% of all the issued share capital (not just 5% of the ordinary shares), while ignoring any shares with a fixed dividend.
When the company has a complex share structure, working out exactly what proportion of the total issued share capital an individual holds can be tricky. HMRC has recently updated its view of ordinary share capital, to include more examples of situations where the position may be finely balanced. It is worth reading through those examples if shares in a company with a complicated share structure.
The voting rights part of the condition must also be met. In the case of Dieno George the taxpayer did not hold enough voting rights for the full 12 month period to take his voting power up to 5%, and so his claim for entrepreneurs’ relief failed.