Purchase of Own Shares: The Tax Pitfalls You Must Avoid

By Wingate Accountants | enquiries@wingateaccountants.co.uk

A Company Purchase of Own Shares (CPOS) can be an appealing and tax-efficient method for a shareholder to exit a business—particularly on retirement or succession planning. However, if executed incorrectly, what seems like a straightforward transaction can lead to unintended and costly tax consequences. This article explores a recent case where things didn’t go to plan, and the lessons business owners and directors can learn from it.

What Is a Company Purchase of Own Shares?

A CPOS occurs when a limited company buys back its own shares from a shareholder. Often, the objective is to facilitate an exit for a shareholder, reduce the total number of shares in circulation, or improve earnings per share.

Where structured properly, this transaction can result in capital gains tax (CGT) treatment, often with Business Asset Disposal Relief (BADR) (formerly Entrepreneurs’ Relief), reducing the tax rate to as low as 10%.

However, failure to meet specific legal and tax conditions could mean the transaction is taxed as income, at rates of 32.5% or 38.1%—substantially higher than CGT.

The Income vs Capital Distinction

Income Treatment: If the buyback is not structured correctly, the portion of proceeds above the original subscription price may be treated as an income distribution—similar to a dividend. This is more punitive in most cases.

Capital Treatment: When the conditions of Part 23, Chapter 3 of the Corporation Tax Act 2010 are satisfied, the shareholder can be treated as disposing of their shares for capital purposes, potentially benefiting from CGT reliefs.

Meeting these conditions typically involves:

The company being unquoted.
The shareholder having held shares for at least 5 years.
The transaction benefiting the company’s trade.
A substantial reduction in the shareholder’s interest in the company.

Case Study: Khan v HMRC [2020] UKUT 168 (TCC)

In this notable tax case, Mr Khan acquired 99 shares in CAD Ltd for £1.95 million (plus net assets) and arranged for the company to repurchase 98 of those shares shortly thereafter for the same amount.

Mr Khan’s position was that he was trading in shares, and therefore any proceeds should be taxed as trading income, where he could offset losses. HMRC, however, took the view that the £1.95 million represented an income distribution.

The First-tier Tribunal and later the Upper Tribunal both rejected Mr Khan’s arguments:

The transactions were seen as investment activity, not trading.
The company’s repurchase constituted a distribution to Mr Khan—not the former shareholders.
The “substance over form” argument failed as the tribunals focused on legal formality and entitlement.

In essence, despite separate documentation, the buyback was treated as a single, taxable income event.

Key Takeaways for Business Owners

Always take pre-transaction tax advice. A CPOS can be attractive for tax purposes—but only if strict legal and tax requirements are met.
Don’t rely on reclassification. Just because you intend to treat a transaction as “trading” or “capital” doesn’t mean HMRC will agree.
Structure matters more than intentions. Even if a transaction is commercial and arms-length, the legal structure determines the tax outcome.
HMRC will scrutinise CPOS transactions. Especially where significant sums are involved and there is a suspicion of artificial structuring.

Practical Advice from Wingate Accountants

A Company Purchase of Own Shares can offer considerable tax advantages, but only if the correct conditions are met and the transaction is appropriately documented under both company law and tax law.

At Wingate Accountants, we assist business owners with:

Reviewing eligibility for capital treatment.
Structuring the buyback process.
Liaising with HMRC for advance clearance.
Preparing the required documentation and statutory filings.

If you’re considering a company share buyback, or you’re planning an exit strategy, contact us today for a tailored consultation. We’ll help ensure your transaction is both compliant and tax-efficient.

📧 enquiries@wingateaccountants.co.uk

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