The UK’s substantial shareholdings exemption (‘SSE’) applies, in certain circumstances, to exempt gains arising on the disposal of shares by corporate shareholders. In Finance Act 2017 the SSE legislation was reformed and these changes apply to disposals on or after 1 April 2017.
The historical position
SSE applies to a disposal by a company of shares and certain related assets. Where one company (‘the investor’) sells shares in another company (‘the investee’) any gain arising was exempt from corporation tax if the following conditions were met:
The investor had held at least 10% of the ordinary share capital of the investee for a 12 month continuous period in the two years preceding the disposal (‘the substantial shareholding test’)
The investor was a trading company or a member of a trading group (‘the investor test’);
The investee was a trading company or the holding company of a trading subgroup (‘the investee test’).
Conditions 2 and 3 had to be satisfied for the last 12 month period identified at 1 above, and up to and immediately after the disposal.
Reasons for the change
The Government acknowledged that the rules were complex and the availability of relief was often dependent on factors outside the investor’s control. The changes have been welcomed by taxpayers as they have generally simplified the existing relief allowing it to be easier to apply in practice and allow the relief to be more widely available.
A reminder of the 2017 changes
The simplification of the rules includes the following relevant points:
The investor test – There is no longer a requirement to test the trading status of the company making the disposal either before or immediately after the disposal. The investor is often a holding company and therefore the old investor test could only be satisfied by looking at the wider group, which would often contain a variety of foreign entities, making it necessary to consider the classification of those foreign entities for UK tax purposes. Going forwards SSE will only depend on consideration of the activities of the company or sub-group being sold only. This change will materially reduce the administrative burden associated with undertaking an SSE analysis. It will also enable SSE to now be available on the disposal of the last trading company within the group, as well as a sale of a substantial shareholding in a trading company by an investment company.
The substantial shareholding test – The old regime stated that the investing company must have held a substantial shareholding in the company to be disposed of throughout a 12 month period beginning not more than two years before the day on which the disposal takes place. For disposals on or after 1 April 2017, this 2 year period has been extended to 6 years. The change allows for piecemeal disposals so that the SSE relief will be available for the disposal of the last tranche of shares. It also allows for more planning opportunities around a disposal, such that earn outs forming part of consideration on a sale can now potentially qualify for SSE.
The investee test – The company being sold must be a trading company or the holding company of a trading group or sub-group. The old rules specified that this test had to be met for the 12 month period prior to the disposal and immediately afterwards. However, for disposals on or after 1 April 2017, the requirement that the company being disposed of remains a trading company (or holding company of a trading sub-group) immediately following the disposal will no longer apply unless the disposal is to a related party. This is a welcome change as the government have acknowledged that the availability of the exemption should not be dependent on factors outside the control of the vendor company.
There is a new relief for disposals of shares in companies which are materially owned by qualifying institutional investors (‘QIIs’). This new exemption provides that, in scenarios where the substantial shareholding test is met but the investee test is not satisfied, an exemption will be available where more than 80% of the share capital of the investor is owned by QIIs. QII’s include certain defined institutional investors, such as investment trusts, pensions schemes, charities, etc.
The changes made to the SSE regime should have a positive benefit to the majority of groups. However, although the rules have been relaxed, it will still be essential to undertake an SSE analysis when considering a sale of a subsidiary company.
If you are contemplating selling a subsidiary company or are already in negotiations and would like advice as to whether SSE will apply, please contact one of the Corporate Tax team for further information.