CG58065 - Deferred consideration: shares and securities: example

TCGA92/S138A

This example illustrates the most common type of transaction. The consideration to be received is immediate cash, immediate shares and an unascertainable deferred amount of shares.

NOTE From 6 April 2008 only companies and other concerns within the charge to Corporation Tax may be able to claim indexation allowance, see CG17207.

FACTS

In year 0 V Ltd acquires all the shares in T Ltd for £100,000.

In year 10 V Ltd sells the shares in T Ltd at arm’s length to P Ltd.

The consideration is

  • cash £500,000, and
  • 80,000 shares in P Ltd at market value of £2.25 each (total £180,000), and
  • the right to two payments of deferred consideration, the amount depending on future profits of T Ltd, to be satisfied only by an issue of shares in P Ltd.

The market value of the right to deferred consideration at the time of disposal is agreed by Shares and Assets Valuation at £300,000.

In year 11 shares in P Ltd to the value of £202,940 (73,000 shares at £2.78 each) are issued to V Ltd in part satisfaction of the right to deferred consideration. The market value of the remainder of the right in year 11 is agreed by Shares and Assets Valuation at £90,000.

In year 12 shares in P Ltd to the value of £118,440 (47,000 shares at £2.52 each) are issued in full satisfaction of the remainder of the right to deferred consideration.

P Ltd is a company whose shares are quoted on the Stock Exchange. All of the conditions are satisfied and the earn-out right is treated as a security by TCGA92/S138A.

COMPUTATIONS

A) IMMEDIATE CHARGEABLE GAIN

Description Cost Multipy Calculation Amount
Cash received - - - £500,000
Less apportioned cost cost x cash -
- - - -——————————- -
- - - cash + shares + right -
- £100,000 x £500,000 -
- - - -———————————— £51,020
- - - £500,000 + £180,000 + £300,000 -
- - - - -———-
Unindexed gain - - - £448,980
less indexation 51,000 x 0.250 - - - £12,755
- - - - -———-
CHARGEABLE GAIN YEAR 10 - - - £436,225
- - - - -———-

B) COST OF SHARES IN P LTD

Apportioned cost Multiply Calculation Amount
£100,000 x £180,000 -
- - -————————————- £18,367 at year 0
- - £500,000 + £180,000 + £300,000 -
Indexed rise to year 10 - - -
£18,367 x 0.250 - - £4,592
- - - -———-
Indexed pool of expenditure - - £22,959
- - - -———-

C) COST OF NOTIONAL SECURITY = RIGHT TO DEFERRED CONSIDERATION

Apportioned cost Multiply Calculation Amount
£100,000 x £300,000 -
- - -————————————— £30,613
- - £500,000 + £180,000 + £300,000 -
Indexed rise to year 10 - - -
£30,613 x 0.250 - - £7,654
- - - -———-
Indexed pool of expenditure - - £38,267
- - - -———-

D) COMPUTATIONS WHEN DEFERRED CONSIDERATION RECEIVED

Notional Security Amount Cost of right Indexed pool of expenditure
As at year 10 - £30,613 £38,267
Indexed rise to year 11 - - -
£38,267 x 0.025 - - £957
- - - -———-
- - - £39,224
Attributable to 73,000 shares in - - -
P Ltd issued in year 11 - - -
£202,940 - - -
-———————– - £21,208 £27,174
£202,940 + £90,000 - - -
- - -———- -———-
Remainder at year 11 - £9,405 £12,050
Indexed rise to year 11 - - -
£12,050 x 0.025 - - £302
- - - -———-
- - - £12,352
Attributable to 47,000 shares in - - -
P Ltd issued year 12 - £9,405 £12,352

E) SHARES IN P LTD

P Ltd Shareholding No of shares Qualifying Indexed pool ,of
- - expenditure expenditure
As at year 10 - - -
(see computations at B) 80,000 £18,367 £22,959
Indexed rise to year 11 - - -
£22,959 x 0.025 - - £574
- - - -———-
- - - £23,533
Additional 73,000 - - -
shares acquired year 11 - - -
(see computations at D) 73,000 £21,208 £27,174
- -———– -———- -————
Pool at year 11 153,000 £39,575 £50,707
- -———– -———- -————
Indexed rise to year 12 - - -
£50,707 x 0.025 - - £1,268
- - - -———–
- - - £51,975
Additional 47,000 - - -
Shares acquired year 12 - - -
(see computations at D) 47,000 £9,405 £12,352
- -———– -———– -———–
Pool at year 12 200,000 £48,980 £64,327
- -———– -———– -———–

EXPLANATION

The statutory reasons for the method of computation are;

A. CASH RECEIVED

The cash received is treated as a part-disposal of the old holding of T Ltd shares under TCGA92/S128(3). The apportionment of the base cost of the old holding is made on the basis of market value at the date of disposal (section 128(4) and TCGA92/S129).

B. COST OF SHARES IN P LTD

V Ltd has acquired shares in P Ltd and a notional security' under the terms of section 138A. These are treated as two classes of shares. Together they form the new holding’ under TCGA92/S127 as applied by TCGA92/S135(3).

If the shares in P Ltd are not quoted the apportionment should be made by reference to market values at the date of a disposal of all or part of the new holding.

D. RIGHT TO UNASCERTAINABLE DEFERRED CONSIDERATION

The part satisfaction of the right to deferred consideration is a part disposal of the right. But because of section 138A it is treated as a conversion of securities within TCGA92/S132. Section 127 applies with the necessary adaptations to the part disposal and part of the base cost of the `notional security’ is transferred to the holding of shares in P Ltd.

The procedure for obtaining valuations of the right to unascertainable deferred consideration is described at CG14950.

E. SHARES IN P LTD

The shares in P Ltd which are acquired go into the TCGA92/S104 holding of shares of the same class. The base cost and indexed pool of expenditure is calculated in accordance with B and C above.