What are alphabet shares and why do contractors need to be aware of them?

What are alphabet shares?

 

Limited Companies are traditionally formed with a nominal number of ordinary shares. As the company grows and more shareholders are added, alphabet shares are certainly something to consider.

 

In this blog our Director of Operations, Laura Hepworth explores what alphabet shares are and how they could be of benefit to you as a Limited Company contractor.

 

Dividend waivers vs alphabet shares

Dividends are received by all the shareholders of a Limited Company, in proportion to their personal shareholdings. Should one shareholder be paid a different amount to the other shareholders, there either needs to be a dividend waiver or the share structure needs to be amended.

 

  • If you believe you’ll use dividend waivers on a regular basis to distribute company profits disproportionately to the same class of shareholder, then it’s advised to use alphabet shares as a permanent alternative method.
  • HMRC are more likely to question dividend waivers.
  • Waivers can be seen as unreliable as all shareholders must give their consent each time. Alphabet shares do not need the consent of all shareholders, as they are already pre-agreed.
  • Voting and other rights or restrictions are possible for alphabet shareholders (redeemable and non redeemable) to be assigned to the different classes of shareholders as required.
  • Alphabet shares allow the freedom and flexibility in paying dividends, so payments can be made to a certain class of share without having to pay the same amount in dividends to each company shareholder. If your Limited Company’s shareholders are taxed at higher rates than one another (if at all) then alphabet shares are a particularly good idea.

 

Settlement Rules

Whether you decide to use dividend waivers or alphabet shares, it’s important to understand whether either is caught by the Settlement Legislation.  In short, the Settlement Legislation is designed to expose and punish anyone who uses dividend waivers or alphabet shares purely to divert income from one person to another, thus resulting in a tax advantage.

 

For alphabet shares it’s particularly important to understand that a lack in voting rights (for example) could result in being caught by the Settlement Legislation.

 

To ensure you do not fall foul of the Settlement Rules, we advise you do the following:

 

  • Any new shares made under the alphabet scheme must be an outright gift and have exactly the same rights as the original ordinary shares. Restrictions cannot apply (such as being non-voting, carrying lesser rights to capital, or promise to return shares on demand). You must not make the shares redeemable preference shares.
  • If you decide to gift shares to spouses, it’s recommended to show that they have an active interest in the running of the company, such as becoming a director, the company’s secretary or even an administrator.
  • Only pay dividends into a bank account that holds the recipient’s name (such as joint accounts) to ensure you don’t attract unwanted HMRC attention.
  • Remember that in order to claim Entrepreneur’s Relief should you decide to sell the company, a 5% share is required.
  • Pay some dividends to each type of share, so as to minimise the risk of HMRC claiming that dividends should not be paid, unless one class of share was not allocated any dividend.

 

Should you have any questions about alphabet shares and how they could compliment your Limited Company, speak to one of our expert advisers today.

 

This blog has been prepared by Intouch Accounting. While we have made every attempt to ensure that the information contained in this blog has been obtained from reliable sources, Intouch is not responsible for any errors or omissions, or for the results obtained from the use of this information. This blog should not be used as a substitute for consultation with professional accounting advisers. If you have any specific queries, please contact Intouch Accounting.

Dividends, share classes and dividend waivers

Dividends, share classes and dividend waivers

A dividend is money paid to a shareholder in return for their investment in a company.  Dividends can be paid monthly, quarterly or annually as the directors of the company see fit.  The only restriction is that the company must have profit available to pay out – management accounts are the best way to know whether that’s the case.

Dividends must be paid out in proportion to shares held, so if a company has 100 ordinary shares and declares a dividend of £10,000 each share will get £100.  Someone holding 25 shares will therefore receive £2,500 and someone holding 75 shares will receive £7,500.

There are two ways this can be changed to enable dividends to be paid in other proportions:

1. Split the shares into different classes

A company can have different classes of shares, known as Alphabet Shares, which can have different rights attached to them.  For example 100 shares could be split into 50 A Shares and 50 B Shares, with both classes having the right to dividends but only the B Shares having any voting rights.

Having different classes of shares enables the company to pay out a dividend on only one class.  It is then possible to pay the A shareholders without paying the B shareholders for example.

2. A shareholder waives their right to receive a dividend

A shareholder can waive their right to receive a dividend, basically saying “No thanks”, and certain paperwork then just needs to be completed and kept on file.

Both of these options should be used with caution, as there is a danger of the Settlements Legislation being applied (the old Section 660a, as made infamous by the Arctic Systems case).  HMRC guidance includes some factors they look for when considering if the legislation applies:

  • Disproportionately large returns on capital investments.
  • Differing classes of shares enabling dividends to be paid only to shareholders paying lower rates of tax.
  • Dividends being waived so that higher dividends can be paid to shareholders paying lower rates of tax.
  • Income being transferred from the person making most of the profits of a business to a friend or family member who pays tax at a lower rate.

 

If you are considering either of these options in order to pay different dividends to different shareholders you should talk to your contractor accountant for specific advice before going ahead.

 

This blog has been prepared by Intouch Accounting. While we have made every attempt to ensure that the information contained in this blog has been obtained from reliable sources, Intouch is not responsible for any errors or omissions, or for the results obtained from the use of this information. This blog should not be used as a substitute for consultation with professional accounting advisers. If you have any specific queries, please contact Intouch Accounting.