What are alphabet shares and why do business owners need to be aware of them?
What are alphabet shares?
Limited Companies are traditionally formed with a nominal number of ordinary shares. As the company grows and more shareholders are added, alphabet shares are certainly something to consider.
Dividend waivers vs alphabet shares
Dividends are received by all the shareholders of a Limited Company, in proportion to their personal shareholdings. Should there be a need for one shareholder to be paid a different amount to the other shareholders, there either needs to be a dividend waiver or the share structure needs to be amended.
- If you believe you’ll use dividend waivers on a regular basis to distribute company profits disproportionately to the same class of shareholder, then it’s advised to use alphabet shares as a permanent alternative method.
- HMRC are more likely to question dividend waivers
- Waivers can be seen as unreliable as all shareholders must give their consent each time
- Alphabet Shares do not need the consent of all shareholders, as dividends are declared by reference to shares held, meaning that dividends declared as being payable to holders of Ordinary shares have no bearing on dividends declared as being payable to holders of an Alphabet share
- It is possible to attribute rights or restrictions to alphabet shares. This could be in relation to voting rights or or rights to distribution on wind up.
- Alphabet shares allow freedom and flexibility in paying dividends, so payments can be made to a certain class of share without having to pay the same amount in dividends to each company shareholder. If your Limited Company’s shareholders are taxed at higher rates than one another (if at all) then alphabet shares are a particularly good idea.
Whether you decide to use dividend waivers or alphabet shares, it’s important to understand whether either is caught by the Settlement Legislation. In short, the Settlement Legislation is designed to expose and punish anyone who uses dividend waivers or alphabet shares purely to divert income from one person to another, thus resulting in a tax advantage.
For alphabet shares it’s particularly important to understand that a lack in voting rights (for example) could result in being caught by the Settlement Legislation.
To ensure you do not fall foul of the Settlement Rules, we advise you do the following:
- Any new shares made under the alphabet scheme must be an outright gift and have exactly the same rights as the original ordinary shares. Restrictions cannot apply (such as being non-voting, carrying lesser rights to capital, or promise to return shares on demand). You must not make the shares redeemable preference shares.
- If you decide to gift shares to spouses, it’s recommended to show that they have an active interest in the running of the company, such as becoming a director, the company’s secretary or even an administrator.
- Only pay dividends into a bank account that holds the recipient’s name (such as joint accounts) to ensure you don’t attract unwanted HMRC attention.
- Remember that in order to claim Entrepreneur’s Relief should you decide to sell the company, a 5% share is required.
- Pay some dividends to each type of share, so as to minimise the risk of HMRC claiming that dividends should not be paid, unless one class of share was not allocated any dividend.