Company Buy-Back of Shares - “Trade Benefit Test”

Introduction

Where a company acquires its own shares any amount paid in excess of the original issue price is treated as a distribution by virtue of Section 84 Corporation Tax Act 1976.

However, Sections 59 to 72 Finance Act 1991, permit capital gains tax treatment where a company buys its own or its holding company’s shares providing certain conditions are met. One on these conditions is that the purchase is made “wholly or mainly for the purpose of benefiting a trade carried on by the company or by any of its 51 per cent subsidiaries” - Section 61(1)(a)(i)(I) Finance Act 1991 refers. This article sets out how this trade benefit test is applied by Revenue and also how an advance opinion may be obtained in a particular case is required.

References in this article to purchase/buy-back of shares includes redemption, repayment or purchase of its own shares by a company, as appropriate.

The legislation deals with the buy-back of shares by unquoted companies or unquoted holding companies of trading groups.

Trade Benefit Test

This test requires that it be shown that the sole or main purpose of the buy-back is to benefit a trade carried on by the company or of one of its 51% subsidiaries. The test would not be met where, for example, the sole or main purpose of the buy-back is to benefit the shareholder or to benefit a business purpose of the company other than a trade e.g. an investment activity.

Revenue will normally regard a buy-back as benefiting the trade where the example:

• There is a disagreement between the shareholders over the management of the company and that disagreement is having or is expected to have an adverse effect on the company’s trade and where the effect of the transaction is to remove the dissenting shareholder
• The purpose is to ensure that an unwilling shareholder who wishes to end his/her association with the company does not sell the shares to someone who might not be acceptable to the other shareholders.

Examples of this would include:

• An outside shareholder who has provided equity finance and wishes to withdraw that finance
• A controlling shareholder who is retiring as a director and wishes to make way for new management
• Personal representatives of a deceased shareholder where they wish to realise the value of the shares
• A legatee of a deceased shareholder, where she/he does not wish to hold shares in the company.

The above examples envisage the shareholder selling his/her entire shareholding in the company and making a complete break from the company. If the company is not buying all the shares owned by the vendor or if the vendor is selling all the shares but retaining some connection with the company (e.g. directorship) it would seem unlikely that the transaction would benefit the company’s trade.

However, there may be situations where:

• For sentimental reasons a retiring director of a company wishes to retain a small shareholding in the company
• A controlling shareholder in a family company is selling his/her shares to allow control to pass to his/her children but remains on as a director for a specified period purely because his/her immediate departure from the company at that time would otherwise have a negative impact on the company’s business.

In such circumstances it may still be possible for the company to show that the main purpose is to benefit its trade.

Advance Opinion

Where a company is unsure whether a proposed buy-back is for the benefit of the trade and where all the other legislative requirements have been met Revenue will, if requested, give an advance opinion on the question of whether the proposed buy-back satisfies the “trade benefit test”. Requests should be sent to:

Office of the Revenue Commissioners,
Direct Taxes International & Interpretation Division,
Capital Gains Tax Section,
Stamping Building,
Dublin Castle, Dublin 2.

Applications for an advance opinion should:

• Confirm that all the other requirements of the legislation have been met
• List the current shareholders in the purchasing company together with particulars of their shareholdings and their relationship with each other, if applicable. If it is a group situation a statement or diagram of the group structure would be helpful.
• State the reason for the share buy-back and the trading benefit expected to accrue to the company (or its 51% subsidiary)
• State the name(s) of the person(s) disposing of the shares, the number and type of shares involved in the buy-back and the date(s) the shares were acquired
• State the amount to be paid for the shares, how this is to be financed and how the latter will impact on the financial position of the company
• Forward a copy of the most recent accounts of the company.