Selling a company that owns property: why the substantial shareholdings exemption so often stops at the letting company
When a holding company sells a subsidiary, the gain on the shares can be wholly exempt from corporation tax. The exemption is generous and its conditions are short, but one of them, that the company sold must be trading, is exactly the condition a property letting company tends to fail. Here is how the test works, a worked comparison of a development company and a letting company, and the degrouping point that can move a gain into the sale.
What the exemption does, and for whom
The substantial shareholdings exemption, in Schedule 7AC to the Taxation of Chargeable Gains Act 1992, exempts a company's gain on disposing of shares in another company when the conditions are met. It is a relief for companies selling shares, not for individuals. A director selling their own shares in a family company gets nothing from it, and looks instead to capital gains tax and, for a trading company, business asset disposal relief. Where the exemption applies it is automatic. There is no claim to make, and a loss on a qualifying disposal is equally not allowable.
The holding condition
The selling company must have held at least 10 per cent of the ordinary share capital, with an entitlement to at least 10 per cent of the profits and assets available for distribution, throughout a continuous twelve months. Since 1 April 2017 that twelve months may fall anywhere in the six years before the disposal, rather than the two years that applied before, and the separate requirement that the seller itself be a trading company was removed from the same date. This condition is rarely the difficulty for a family group that owns its subsidiaries outright.
The trading condition, and why letting fails it
Unless qualifying institutional investors own at least 25 per cent of the seller, which is rare in a family group, the company being sold must be a trading company, or the holding company of a trading group or subgroup, throughout the latest twelve-month period by reference to which the holding condition is met. For a subsidiary held right up to the sale, that is the year before it. It must also still qualify immediately after the sale where the buyer is connected with the seller. A trading company is one whose activities include trading activities and do not include, to a substantial extent, activities that are not trading activities. HMRC read substantial as more than 20 per cent, and they weigh turnover, the value of assets, the expenditure and time of officers and employees, and the company's history together rather than applying any one of them mechanically. Letting property is a property business, not a trade, so a company whose business is letting is not a trading company. A company that develops property to sell, or buys property to sell, is trading, and its shares can qualify.
The same sale, twice
The figures are illustrative. A holding company formed its two subsidiaries after 2017, so no indexation allowance arises, and each has a base cost of GBP 100,000. One develops houses for sale. The other holds let houses. Each is sold for GBP 3 million. The development company is a trading company and the holding condition is met, so its GBP 2.9 million gain is exempt. The letting company is not trading, so its GBP 2.9 million gain is chargeable, and at the 25 per cent main rate the corporation tax is GBP 725,000. The two companies are worth the same and are sold on the same day. The difference in tax is entirely the trading condition, and for the owner the GBP 725,000 is paid before any of the proceeds can reach them as a dividend.
Mixed groups: where a trading company holds too much property
The test looks at the activities of the company sold or, for a holding company, of its group taken as a whole. A trading company that has accumulated let property beside its trade, or a group whose investment side has grown, can drift past the 20 per cent line without anyone noticing. Because HMRC weigh the indicators together, no single figure settles it, but a group that holds a large part of its assets in let property, or earns a large part of its income from rent, should expect the question to be asked. Where the uncertainty is about how HMRC interpret the law rather than about the facts, HMRC will consider giving an opinion through their non-statutory clearance service, as their Capital Gains Manual at CG53120 explains.
The degrouping point
If a property was moved into the subsidiary from another group company within the six years before the subsidiary leaves the group, the original transfer will have been at no gain and no loss, and leaving the group triggers a degrouping charge on it. For disposals on or after 19 July 2011, that charge is normally added to the consideration for the shares rather than taxed separately, under section 179(3D). Where the share sale qualifies for the exemption, the degrouping gain is exempt with it. Where it does not, as with a letting company, it adds to the chargeable gain. Stamp duty land tax group relief has its own clawback when a company leaves a group within three years of an intra-group transfer, and the substantial shareholdings exemption does nothing to prevent that.
What a buyer sees
A buyer of the shares takes the company with its property at the company's original cost, and with the latent gain that goes with it. Buyers price that in. They also pay stamp duty on the shares at 0.5 per cent, rather than stamp duty land tax on the property itself. The negotiation over price therefore turns on the same tax facts as the seller's own position, and it helps to know them first.
What to do in the year before any sale
Test each company's trading status now, on the four indicators, and record the result. Identify any property moved between group companies in the last six years, and any SDLT group relief claimed in the last three. Where a trading company carries let property that could tip the balance, consider whether the property belongs in a separate company, remembering that moving it starts its own clocks. And model the tax on the sale both ways, with and without the exemption, before heads of terms are agreed. The exemption is a relief the legislation offers, and it rewards those who check the conditions before the sale rather than after it.
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This article is general information only and does not constitute tax advice. Figures and dates are current as at the date of writing; any worked example is illustrative. Always consult a qualified adviser before acting.