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CG58065 | Deferred consideration: shares and securities: example

From HM Revenue & Customs · Capital Gains Manual

This example illustrates the most common type of transaction. The consideration to be received is immediate cash, immediate shares and an unascertainable deferred amount of shares.

NOTE From 6 April 2008 only companies and other concerns within the charge to Corporation Tax may be able to claim indexation allowance, see CG17207.

FACTS

In year 0 V Ltd acquires all the shares in T Ltd for £100,000.

In year 10 V Ltd sells the shares in T Ltd at arm’s length to P Ltd.

The consideration is

  • cash £500,000, and

  • 80,000 shares in P Ltd at market value of £2.25 each (total £180,000), and

  • the right to two payments of deferred consideration, the amount depending on future profits of T Ltd, to be satisfied only by an issue of shares in P Ltd.

The market value of the right to deferred consideration at the time of disposal is agreed by Shares and Assets Valuation at £300,000.

In year 11 shares in P Ltd to the value of £202,940 (73,000 shares at £2.78 each) are issued to V Ltd in part satisfaction of the right to deferred consideration. The market value of the remainder of the right in year 11 is agreed by Shares and Assets Valuation at £90,000.

In year 12 shares in P Ltd to the value of £118,440 (47,000 shares at £2.52 each) are issued in full satisfaction of the remainder of the right to deferred consideration.

P Ltd is a company whose shares are quoted on the Stock Exchange. All of the conditions are satisfied and the earn-out right is treated as a security by TCGA92/S138A.

COMPUTATIONS

A) IMMEDIATE CHARGEABLE GAIN

DescriptionCostMultipyCalculationAmount
Cash received---£500,000
Less apportioned costcostxcash-
----——————————--
---cash + shares + right-
-£100,000x£500,000-
----————————————£51,020
---£500,000 + £180,000 + £300,000-
-----———-
Unindexed gain---£448,980
less indexation 51,000 x 0.250---£12,755
-----———-
CHARGEABLE GAIN YEAR 10---£436,225
-----———-

B) COST OF SHARES IN P LTD

Apportioned costMultiplyCalculationAmount
£100,000x£180,000-
---————————————-£18,367 at year 0
--£500,000 + £180,000 + £300,000-
Indexed rise to year 10---
£18,367 x 0.250--£4,592
----———-
Indexed pool of expenditure--£22,959
----———-

C) COST OF NOTIONAL SECURITY = RIGHT TO DEFERRED CONSIDERATION

Apportioned costMultiplyCalculationAmount
£100,000x£300,000-
---—————————————£30,613
--£500,000 + £180,000 + £300,000-
Indexed rise to year 10---
£30,613 x 0.250--£7,654
----———-
Indexed pool of expenditure--£38,267
----———-

D) COMPUTATIONS WHEN DEFERRED CONSIDERATION RECEIVED

Notional SecurityAmountCost of rightIndexed pool of expenditure
As at year 10-£30,613£38,267
Indexed rise to year 11---
£38,267 x 0.025--£957
----———-
---£39,224
Attributable to 73,000 shares in---
P Ltd issued in year 11---
£202,940---
-———————–-£21,208£27,174
£202,940 + £90,000---
---———--———-
Remainder at year 11-£9,405£12,050
Indexed rise to year 11---
£12,050 x 0.025--£302
----———-
---£12,352
Attributable to 47,000 shares in---
P Ltd issued year 12-£9,405£12,352

E) SHARES IN P LTD

P Ltd ShareholdingNo of sharesQualifyingIndexed pool ,of
--expenditureexpenditure
As at year 10---
(see computations at B)80,000£18,367£22,959
Indexed rise to year 11---
£22,959 x 0.025--£574
----———-
---£23,533
Additional 73,000---
shares acquired year 11---
(see computations at D)73,000£21,208£27,174
--———–-———--————
Pool at year 11153,000£39,575£50,707
--———–-———--————
Indexed rise to year 12---
£50,707 x 0.025--£1,268
----———–
---£51,975
Additional 47,000---
Shares acquired year 12---
(see computations at D)47,000£9,405£12,352
--———–-———–-———–
Pool at year 12200,000£48,980£64,327
--———–-———–-———–

EXPLANATION

The statutory reasons for the method of computation are;

A. CASH RECEIVED

The cash received is treated as a part-disposal of the old holding of T Ltd shares under TCGA92/S128(3). The apportionment of the base cost of the old holding is made on the basis of market value at the date of disposal (section 128(4) and TCGA92/S129).

B. COST OF SHARES IN P LTD

V Ltd has acquired shares in P Ltd and a notional security' under the terms of section 138A. These are treated as two classes of shares. Together they form the new holding’ under TCGA92/S127 as applied by TCGA92/S135(3).

If the shares in P Ltd are not quoted the apportionment should be made by reference to market values at the date of a disposal of all or part of the new holding.

D. RIGHT TO UNASCERTAINABLE DEFERRED CONSIDERATION

The part satisfaction of the right to deferred consideration is a part disposal of the right. But because of section 138A it is treated as a conversion of securities within TCGA92/S132. Section 127 applies with the necessary adaptations to the part disposal and part of the base cost of the `notional security’ is transferred to the holding of shares in P Ltd.

The procedure for obtaining valuations of the right to unascertainable deferred consideration is described at CG14950.

E. SHARES IN P LTD

The shares in P Ltd which are acquired go into the TCGA92/S104 holding of shares of the same class. The base cost and indexed pool of expenditure is calculated in accordance with B and C above.