The substantial shareholding exemption (SSE) rules broadly exempt from Corporation Tax the capital gain or capital loss arising on the disposal of certain shares. The conditions include that the shares are ordinary share capital in a trading company or the holding company of a trading group or subgroup where a number of requirements are met by the investing company and by the company invested in. As well as the main exemption there are also three subsidiary exemptions within SSE that will also be covered in this note.
SSE applies automatically if the requirements are met and does not have to be claimed. It must be remembered that the provisions also apply to losses, which means that losses exempted by SSE will not be available to offset against other chargeable gains.
SSE is not restricted to disposals of shares in UK-based companies.
The main exemption – investing company requirements
The investing company must have held a substantial shareholding in the company invested in throughout a twelve month period beginning not more than six years before the date of the disposal.
A company has a substantial shareholding if it:
(a) holds not less than 10% of the investee company's ordinary share capital,
(b) is entitled to not less than 10% of the profits available for distribution to equity holders,
(c) would be beneficially entitled to not less than 10% of the assets on a winding up.
These rules are designed to give flexibility for partial disposals of shares, but at the same time ensure that rights attaching to shares are not drafted in a way that seeks to secure a 10% holding without a full beneficial interest in the investee company.
The period for which an investing company is treated as holding a substantial shareholding can be extended by meeting the ‘hive-down’ provisions, which can apply where a group forms a new company and transfers an asset which has been used for the purposes of a trade carried on by the group to the new company, after which the new company is sold. In this case the investing company is treated as having held the substantial shareholding in the new company at any time during the final twelve month period when the asset was used for the purpose of a trade carried on by the group.
This provision allows a group to hive down trading assets to a new company to facilitate the onward sale of a trade.
There are no requirements in relation to the status of the investing company, which can be a trading company, an investment company, or the holding company of a wider group.
The main exemption – investee company requirements
The company invested in must have been a qualifying company throughout the period beginning with the start of the latest twelve month period by reference to which the investing company held a substantial shareholding and ending with the date of disposal.
Where the disposal is to a connected person or where SSE is being claimed by virtue of the ‘hive-down’ provisions the investee company must continue to be a qualifying company immediately after the time of the disposal.
A company is a qualifying company if it is a trading company or the holding company of a trading group or subgroup. A company or group is treated as trading if it carries on trading activities whose activities do not include to a substantial extent activities other than trading activities. Substantial is considered to be more than 20%, which could be measured by reference to turnover, asset values, expenditure incurred or time spent by officers or employees, whichever tests are most appropriate in the circumstances.
Trading activities include activities carried on by the company or group:
(a) in the course of, or for the purposes of, a trade carried on by it,
(b) with a view to its acquiring or starting to carry on a trade, or
(c) with a view to its acquiring a significant (usually 51%) in another trading company or group.
For the purposes of SSE a group is a holding company and its 51% subsidiaries.
Where a company has an interest in a joint venture company an appropriate proportion of the JV’s activities are treated as activities of the company holding that interest. A company is a joint venture company if it is a trading company or the holding company of a trading group or subgroup, and there are five or fewer persons who between them hold 75% or more of its ordinary share capital.
First subsidiary exemption – disposal of assets relating to shares
Where an investing company holds a substantial shareholding in a company and also holds options over shares, securities that are convertible into shares, or options on such securities, SSE would apply to the disposal of these options or securities, so long as the other main exemption requirements are met.
Second subsidiary exemption – disposal of shares where the conditions for the main exemption previously met
This exemption applies where the following conditions are met:
(a) At the time of the disposal the investing company had a substantial shareholding in the company invested in,
(b) A chargeable gain or allowable loss would accrue but for the provisions of this subsidiary exemption,
(c) The investing company is resident in the UK or is chargeable to corporation tax at the time of the disposal,
(d) There was a time within the period of two years prior to the disposal when, if the investing company or a company in the same group had disposed of the shares SSE would have applied,
(e) If at the time of the disposal the investee company requirements are not met, there was a time within the period of two years prior to the disposal when the investee company was controlled by the investing company, the investing company and persons connected with it, a company which was at any time in that period a member of the same group as the investing company, or that company together with persons connected with it.
This exemption can be useful, for example, where a holding company has a subsidiary that has disposed of its trade, and the holding company is now selling that subsidiary within two years after it has ceased to trade.
Third subsidiary exemption – qualifying institutional investors
This exemption applies to companies that are wholly or partly owned by qualifying institutional investors, which include:
- pensions schemes
- life assurance businesses
- sovereign wealth funds
- investment trusts
- authorised investment trusts
- exempt authorised investment trusts
- qualifying UK REITs
The key relaxation compared to the main exemption is that the investee company is not required to be trading before or after the disposal. The investor company is also not required to be trading before or after the disposal.
Full exemption is available where the institutional investors qualifying interest in the company making the disposal exceeds 80%. Partial exemption is available where the interest is between 25% and 80%.
There is also a relaxation of the 10% shareholding requirement where shares are acquired for more than £20million. The one qualification is that the rights as equity holder in respect of distributions and assets on winding up should match the proportionate shareholding.
Typical institutional investor structure
SSE is an attractive relief for companies and is intended to increase the competitiveness of the UK compared to other jurisdictions. We have set out the basic principles but the relief is complex and specific advice should be sought to ensure that the relief is available.