Tax tip: Different categories of shares
One of the limitations of a limited company when it comes to setting an efficient profit extraction strategy is the need to pay dividends in proportion to shareholding; dividends are declared ‘per share’.
To overcome this limitation, consider creating different classes of shares at the outset to allow the flexibility for different rights to be attributed to different shareholders. Because dividends must be paid out in accordance with shareholdings, by creating different classes of shares it is possible to declare a dividend for one class and not for another, or to declare different dividends for different classes of shares. This allows the flexibility to extract profits in a tax-efficient manner.
A share structure of this nature is often referred to as an alphabet share structure, as the company can create A class shares for one shareholder, B class shares for another shareholder and so on.
Likewise, attaching different voting rights to different shares allows the decision making to be vested in one person but for another person to receive a greater share of profits.
If an alphabet share structure is not created at the outset, it is possible to create different classes of shares at a later date, as long as this is permitted by the articles of association.
When using an alphabet share structure, it is sensible to plan ahead to ensure that the shares meet the conditions for business asset disposal relief (previously entrepreneurs’ relief).
The Sunak family are shareholders in their family company, Sunak Ltd. Mr Sunak holds 100 A class shares. These have full voting rights but no right to assets on a winding up.
Mrs Sunak has 100 B class shares. They have no voting rights and no right to assets on a winding up.
Mr and Mrs Sunak’s sons, Raj & Ram, hold 50 C class shares each. They have no voting rights but have a right to a share of the assets on winding up.
Having different classes of shares allows Mr Sunak to retain full control over the decision making and provides the flexibility to declare dividends for each class of share. This will enable profits to be extracted in a tax-efficient manner by tailoring dividends to utilise any unused dividend and personal allowances and basic rate bands. On a winding up, the assets would be shared equally between the children.
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