Revenue Note for Guidance

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Revenue Note for Guidance

584 Reorganisation or reduction of share capital

Summary

This section contains special rules to be applied on reorganisation or reduction of the share capital of a company as, for example, when persons are allotted shares in a company in proportion to their existing shareholdings or when rights attaching to different classes of shares are altered. In the absence of a provision to the contrary, the reorganisation or reduction would represent a disposal of the old shares and an acquisition of the new shares with a consequent liability to capital gains tax. The central principle in section 584 is that the mere exchange of one block of shares for another, on a capital reorganisation by a company, is not to be treated for capital gains tax as a disposal of the old shares or an acquisition of the new shares. Instead, the new holding is treated as if it had been acquired at the same time and cost as the original holding was acquired, and a gain or loss on the old shares is not regarded as accruing until the new holding is disposed of in whole or in part.

Section 584 also provides for the case where as part of the reorganisation scheme some consideration other than the shares is given or received by the shareholder. Where such consideration is given, it is treated for the purposes of indexation relief as expenditure incurred on the date the consideration was given. Where such consideration is received, the shareholder is charged to capital gains tax by reference to the amount of the consideration as if it were a disposal of part of the shares. Rules are also given for apportionment of the cost of the original shares in computing a capital gain or loss on the disposal of any part of the new shares. In addition, where rights issues are not taken up but are disposed of, there is a special rule that the cash received is treated as if it were a capital distribution received from the company and section 583 applies accordingly.

The section also applies where the new holding comprised debentures allotted before 4 December 2002 or where they were allotted pursuant to a written binding agreement made before that date.

The section shall not, however, apply where the new holding comprises units in an investment undertaking, being a company. ‘Investment undertaking’ and ‘unit’ have the same meaning as in section 739B.

Details

Definitions

(1) References to a reorganisation or reduction of a company’s share capital include any case where persons receive an allotment of shares or debentures in respect of or in proportion to their existing holdings and any case where there is an alteration of the rights attaching to any class of shares.

References to a reduction of share capital do not include the paying off of redeemable share capital, and the redemption of redeemable shares (otherwise than by the issue of shares or debentures or in a liquidation) is to be treated as a disposal of the shares by the shareholder.

The term “original shares” means shares held before the reorganisation or reduction of capital and “new holding”, in relation to any original shares, means the shares in and debentures of the company which, as a result of the reorganisation or reduction of capital, were allotted in exchange for the original shares. (See subsection (9) regarding the issue of debentures on or after 4 December 2002)

Application

(2) The section applies for capital gains purposes in relation to any reorganisation or reduction of a company’s share capital.

Reorganisation/reduction of share capital not a disposal

(3) A reorganisation or reduction of share capital is not regarded as a disposal of the original shares or an acquisition of new shares. Instead, the original shares and the new holding are treated as the same asset acquired as the original shares were acquired as respects cost and date of acquisition. The consequence of this rule is that any gain or loss on the original shares is treated as accruing only when the new holding or part of it is disposed of.

Example

On 6 April, 1997 A bought 1,000 ordinary shares in a company for €1,000. In April, 1999 a reorganisation of the company’s share capital took place. In exchange for the 1,000 ordinary shares, A received 1,500 preference shares. He sold those shares on 1 December, 2002 for €2,500. The reorganisation in April, 1999 is not treated as a disposal of the ordinary shares or an acquisition of the preference shares. Instead, capital gains tax is payable on the disposal on 1 December 2002 and the chargeable gain is computed as follows —

Sale price of preference shares

€2,500

Cost of ordinary shares

€1,000

Indexed @ 1.037

€1,037

Chargeable gain

€1,463

Consideration given as part of reorganisation/reduction

(4)(a) Where a person gives or becomes liable to give any new consideration as part of the reorganisation or reduction scheme, then, in computing the gain on a disposal or part disposal of the new holding, that consideration is treated for the purposes of indexation relief under section 556 as enhancement expenditure incurred on the date the consideration was given. If the new holding or part of it is disposed of with a liability for that consideration attached to it, the consideration for the disposal is adjusted to take account of the liability.

(4)(b) New consideration does not include —

  • any surrender, cancellation or other alteration of the original shares or of the rights attached to those shares, or
  • any consideration consisting of any application, in paying up the shares or debentures or any part of them, of any assets of the company, or of any dividend or other distribution declared out of those assets but not made.

The purpose of paragraph (b)(ii) is to prevent a company providing, out of its own resources, consideration for the new holding which would artificially increase the base cost of the shares. The main application of the rule would be in relation to rights issues in respect of which the shareholder pays or is liable to pay something for the allotment of the new shares or debentures.

There is an exception to the rule to take account of section 816. That section imposes an income tax charge on a shareholder who exercises an option to take shares in an unquoted company instead of a cash dividend. Where such an option is exercised, the cash foregone is deemed to be an allowable expense in computing a gain or loss on the subsequent disposal of the new holding of shares.

Example

A bought 1,000 ordinary shares in a company on 1 July, 1997 for €1,000. On a reorganisation of the company on 1 July, 1998 A acquired 1,000 preference shares in the company of €1 each in exchange for his ordinary shares and a cash payment of €500. On 1 December, 2002 A sold the 1,000 preference shares for €2,500. The chargeable gain on this disposal is computed as follows —

Sale price of preference shares

€2,500

Cost price of ordinary shares (€1,000)

Indexed @ 1.037

€1,037

plus

Expenditure of €500 on 1/7/96

Indexed @ 1.016

€508

€1,545

Chargeable gain

€955

Consideration received as part of reorganisation/reduction

(5) Where a person receives or is deemed to receive consideration in addition to the new holding, and in particular where the consideration is given by the company as a capital distribution or by the other shareholders for the surrender of rights derived from the original shares, the recipient is treated as disposing (for the consideration given to the recipient) of an interest in the original shares and the new holding is treated as the residue of the original holding.

Part disposals

(6) Provision is made for the apportionment of the cost of the original shares when any part of the new holding is disposed of or where under subsection (5) any consideration received is deemed to be a part-disposal of the original shares. In such cases the normal part disposal rule (section 557) applies by reference to market value at the date of disposal.

Example

On 6 April, 1997 X bought 1,500 ordinary €1 shares for €1,500. On 1 July, 1998, as part of a reorganisation of the company’s share capital, X received 1,000 A ordinary shares and 1,000 preference shares in exchange for the 1,500 ordinary shares. He sold the A ordinary shares on 1 December, 2002 for €2,000 and the market value of the preference shares on that date was €2,500. None of the shares are quoted. The computation of the chargeable gain is as follows —

Sale proceeds of A ordinary shares

€2,000

Less cost

2,000

1,500×


= 667

2,000 + 2,500

Indexed @ 1.037

€692

Chargeable gain

€1,308

(7) The apportionment rule set out in subsection (6) is modified where the new holding consists of more than one class of shares or debentures and not later than 3 months (or longer if the Revenue Commissioners allow) after the reorganisation one or more of these classes is quoted on a recognised stock exchange. In any such case the apportionment is to be made by reference to the market value of the separate classes immediately after the reorganisation instead of at the time of the first part disposal. In this way the same basis of apportionment applies to all the shareholders concerned. This rule also applies where a new holding is in a unit trust which consists of more than one class of rights and the prices for one or more of those classes are published regularly by the managers of the unit trust scheme. It is also provided that, where there is an allotment of shares, debentures or unit rights, the reorganisation is treated as taking place on the day following that on which the shareholders’ right to renounce the allotment expires, which will normally bring it into line with the end of the 3 months time limit mentioned above.

Example

On 1 July, 1995 a woman acquires 1,000 ordinary shares in a private company for €900. On 1 June, 1997 in a share capital reorganisation she receives (at no charge) 500 founders’ shares and 250 ordinary shares. The 250 ordinary shares are quoted on 1 June 1997 at €2 (thus worth €500). On 1 December, 2002 she sells 250 ordinary shares for €1,250. The market value at 1 June, 1997 of the founders’ shares is agreed between the Revenue and the taxpayer at €4,000.

The chargeable gain is computed as follows —

Amount realised on sale

€1,250

Apportioned cost of original holding

300

900×


= 100

500 + 4,000

Indexed @ 1.081

€108

Chargeable gain =

€1,142

Sale of rights

(8) Where a person sells rights in respect of shares instead of taking up those rights, the amount received for the disposal of those rights is treated as a capital distribution and section 583 applies accordingly.

New holding comprising debenture

(9) The section also applies where the new holding comprised debentures, loan stock or other similar securities so long as they were issued or allotted before 4 December 2002, or were issued on or after that date pursuant to a written binding agreement made before that date.

Exclusion of investment undertakings

(10) The section shall not, however, apply where the new holding comprises units in an investment undertaking, being a company. ‘Investment undertaking’ and ‘unit’ have the same meaning as in section 739B.

Relevant Date: Finance Act 2020