A badly structured SPA can harm your capital gains tax position!

The issue

Would you rather sell your company for £8 million with the obligation to repay its £1 million debt, or sell for £7 million and leave the loan for the buyer to sort out? You may think that there is no difference and commercially you would be correct. However, a recent tax case shows how the difference can be significant for tax purposes.

Michelle McEnroe and Miranda Newman v HMRC [2022]

In this recent case Michelle and Miranda sold their company for £8 million with the obligation that they would repay a bank loan of £1.1 million prior to completion. What actually happened was that the buyers transferred £8 million to the solicitors who paid £6.9 million to the sellers and £1.1 million to the bank.

The sellers assumed that the consideration they received for the company was £6.9 million and calculated their capital gains tax (‘CGT’) liability accordingly. HMRC pointed out that the SPA showed a sales price of £8 million and that nothing in the contract suggested that the buyer was responsible for repaying the loan. They therefore argued that the consideration ought to be the full £8 million and thus CGT was effectively payable on the £1.1 million that the sellers did not actually receive. HMRC stated that the fact that the contract could have been worded differently does not change the sale that actually occurred.

The Appellants made several arguments:

• That the contract can be construed to be for the sale of shares and repayment of debt.
• That the contract interpretation needs to consider the whole aspect of the transaction and not just a literal interpretation.
• That there is evidence that the bank loan was not intended to be treated as consideration.

These all ultimately failed, broadly on the basis that the legal agreement ‘said what it said’.

Capital contributions

HMRC’s view was that the £1.1 million was effectively a capital contribution into the company by the sellers, for the repayment of the debt. If the £1.1 million was a capital contribution, then surely this can be deducted as enhancement expenditure when calculating the gain? Unfortunately, not! In the case of The Trustees of F.D Fenston Will Trust v HMRC (SpC589/07) the court determined that a capital contribution to a company affects neither the ‘state’ or ‘nature’ of the shares in the company and therefore cannot be considered as enhancement expenditure. HMRC apply this rule very strictly.

Guilty or not guilty

The judge ruled in HMRC’s favour as he did not believe the contract was ambiguous, or could be interpretated in the way in which the sellers argued.
Forbes Dawson view

We would not want to be in the shoes of the tax advisors in this case, although we can see how the confusion arose. Here, the sellers fell into the trap of structuring the deal in such a way that their repayment of the debt was a ‘tax nothing’. The issue could easily have been avoided by having £6.9 million of headline consideration and then the buyers could have refinanced the £1.1 million in a way that suited them. The take home message is to always get a tax review, not just on the basic structure, but also on the way that a transaction has legally been documented. We will watch out for appeals with interest but our money is on HMRC for this one.




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