In the case of a family company a shareholder will not always consider the advantages and disadvantages of the different ways in which their company can be financed. It is very common for additional money to be injected into the company, as and when needed, as an informal loan rather than making a further subscription for shares.
It is important to be aware of the pros and cons of the alternative means of finance whilst the company is in a healthy position. If the matter is left until there are doubts that the funds can be returned to the shareholder there may be issues regarding available tax reliefs for the loss of funds.
So what tax relief is available on any losses I sustain?
In general terms a loss on a disposal of ordinary shares in a qualifying trading company may give rise to income tax relief. The loss can be set against income and so reduces the overall income tax liability. On the other hand, a loss on a loan may give rise to a capital loss which can only be set against capital gains to reduce the capital gains tax liability. In both cases, certain conditions have to be satisfied.
Losses on share capital
The starting point is that a loss on a disposal of shares, by default is a capital loss. However, a loss on a disposal of shares which have been subscribed for in a qualifying trading company can be relieved against income rather than capital. Certain trades are excluded from this relief including companies whose trade consists of property development, farming and managing nursing homes. Please contact us for full details.
If the shares are not actually sold, a claim can be made to treat them as having been sold where the value of the shares has become of negligible value. This is important as HMRC will seek to deny the claim if the company is in financial difficulties at the time of the subscription on the basis that the shares had little value at the time of the subscription and have therefore not become of negligible value.
Irrecoverable loans to a company
If a company ceases to trade and a loan is still outstanding the irrecoverability of the loan may give rise to a capital loss. This may be set off against current capital gains or carried forward until gains are realised in the future.
Again the loan must have become irrecoverable and HMRC will seek to deny the claim if the company is already in financial difficulties at the time the loan is made.
Are there any other options?
Most taxpayers will prefer an income tax loss as opposed to a capital loss. It is possible to convert a loan into shares before making a claim for the loss against income. Again, if the company is already in financial difficulties the value of the loan will be very low and hence the value of the new shares will also be very low. If the loan still has some value, the cost of the new shares is calculated according to their value at the date of acquisition and not the value of the loan that is given up.
Please contact us for further advice if this is an area of interest to you.