V shares are growth shares. This means that they only share in the capital growth of the business from the point that they were issued. So, for example, if they are issued at a hurdle of £1 per share, then they will only share in any eventual net sale proceeds that are over and above £1 per share. This means that existing shareholders are only value diluted for growth from that point, rather than the existing worth of the company.
The purpose for using growth shares as V shares is to limit the risk of a recipient of V shares being exposed to income tax on award of the shares. So long as the shares are issued at a “hurdle” that reflects what HMRC would see as an acceptable premium to the value of the company at the time, then they are only exposed to CGT on an eventual sale. Any dividends they receive, of course, would meet with the standard tax treatment for dividend income at the time.
There are a few additional issues that should be understood. The valuation of a business for HMRC purposes is not an exact science. Furthermore, it is not possible to get HMRC to pre-approve a valuation for a company anymore, unless it is specifically for an EMI (government approved) option scheme for employees.
Specialised accountants are used to carrying out valuations for these purposes, however, and have a good feel for what is likely to be unacceptable or acceptable to HMRC in due course. In some cases, depending on the nature of the company, a premium of 20-40% may be applied to the market value to reflect any “hope value” of the shares, and thus further mitigate any risk of HMRC deciding at some point in the future that these shares had been undervalued at issue. In a worst case scenario, if they so decided, they would charge income tax on any differential between the hurdle and their determined market price at the time.
Below is an “opinion” from our legal adviser, who drafted the Articles that addresses this:
“In relation to the V Shares, as drafted in the pro forma articles for platform companies, we would confirm the following based on the law (and our understanding of HMRC's interpretation of the law) as it stands today:
- The V Shares will form part of the company's share capital.
- For a UK-based individual consultant, contractor or adviser, we would expect that the receipt of a V Share (or the grant of an option over V Shares) will be a trading receipt that is subject to income tax by reference to its prevailing market value (see below). Thereafter, a UK-based individual would be liable to capital gains tax by reference to the future growth in value (being the amount of any ultimate sale proceeds less the base cost of the shares). No further charges to income tax would ordinarily arise unless changes are made to the equity structure or another material event arises in relation to the company which increases the value of the V Shares on a non-arm's length basis.
- For a UK-based individual employee, we would expect that the receipt of a V Share (including on the exercise of a non-EMI option) will be treated as remuneration for the employment and give rise to income tax by reference to the prevailing market value of the V Shares acquired (see below). This income tax will be payable under self-assessment unless the shares are 'readily convertible assets' at the time of acquisition (essentially, this is assessed by reference to the marketability of the shares). If the shares are 'readily convertible assets', the income tax will be payable under PAYE and NICs will also arise (for both the employer and the employee). Thereafter, a UK-based individual would be liable to capital gains tax by reference to the future growth in value (being the amount of any ultimate sale proceeds less the base cost of the shares). To avoid any future income tax charges under the 'restricted securities legislation', we would recommend that an employee is always required to enter into a section 431 election (see here) within 14 days of the acquisition of shares. Whilst the 'employment-related securities' legislation sets out a number of other situations in which future income tax charges may arise, these should not ordinarily arise if no changes are made to the company's equity structure or if no other material event arises in relation to the company which increases the value of the V Shares on a non-arm's length basis.
- For tax purposes, the 'unrestricted' market value of the V Shares will take into account the hurdle. Whilst we understand that the platform will seek valuation advice on each occasion that V Shares are issued, in our experience, the V Shares are unlikely to have value from a tax perspective if the hurdle is set at a small premium (20 to 40%) of the prevailing non-discounted value of the ordinary shares.”
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