Insurer has returned proceeds from acquisitions to shareholders – here’s how to work out what you owe HMRC
Thursday 23 Jun 2022 Author: Laith Khalaf

Investors are probably used to receiving dividends from companies, and the income tax that may be liable on those payments. But every now and then, companies choose to pay back some capital to investors, and that is taxed in a different way.

Insurance firm Aviva (AV.) recently paid £3.75 billion back to shareholders by issuing them with B shares, and then immediately redeeming those shares for cash.

The important thing to recognise with these returns of capital is that they are potentially liable for capital gains tax or CGT, rather than income tax like dividends.

All individuals have an annual capital gains tax allowance of £12,300 each year, which means even those with large gains can normally avoid CGT by spreading out their share sales over a number of tax years. That’s not necessarily the case with a return of capital, because the timing is normally a one-off event dictated by the company, rather than individual shareholders. The result is that those receiving large payments could face capital gains tax, especially if they have other unsheltered gains that have been crystalised in the same tax year.

WHAT IS THE CHARGEABLE GAIN?

When a return of capital creates a profit for investors, they need to work out what their chargeable gain is, to calculate if it might be liable for capital gains tax. This requires investors to deduct the cost of their shares from the proceeds of the return of capital. The proceeds are normally fairly straightforward to ascertain, they are typically the cash that the shareholder receives from the disposal of shares or from the company. In the case of Aviva, for each share held by investors, they received a B share which was then immediately cancelled in exchange for 101.69p.

The B shares are simply an intermediate step, and it may be simpler to think of the company simply providing individual investors with 101.69p in cash for each existing Aviva share they held. So an investor with 10,000 Aviva shares ended up receiving a cash payment of £10,169. These are the proceeds produced by the return of capital.

TRICKY CALCULATION

Determining the cost of the shares that produced that proceeds can be a little more tricky, because usually investors will still retain a shareholding in the company in question. Essentially the total base cost of the shareholding needs to be apportioned between the capital that is being returned, and the shares which investors are left with.

Happily, Aviva have supplied this split for investors – 74.68% of the base cost should be attributed to the retained shareholding, and 25.32% to the return of capital, or B shares.

So in our simplified example, let’s say the 10,000 Aviva shares were purchased 10 years ago for £3 a share, including charges, at a total cost of £30,000.

According to Aviva’s template, the cost apportioned to the return of capital should be 25.32% of £30,000, or £7,596.

Now the chargeable gain from the return of capital can be calculated by deducting the base cost of £7,596 from the proceeds of the return of capital, £10,169. The difference, £2,573, is the gain made by the investor in this example, and should be added to other gains and losses made within the tax year to determine if the £12,300 annual CGT-free allowance has been breached, and hence if any tax may be payable. Investors should also make a note of the base cost of their remaining shareholding, the other 74.68% or £22,404, as this is then the base cost to be used to calculate any chargeable gain when they sell their remaining Aviva shares.

DO YOUR HOMEWORK

Clearly this is a relatively complicated area of taxation, and in these scenarios, investors should carefully read the documents provided by the company returning capital, where details of the payment and tax treatment are typically available. The level of tax payable by investors depends on their individual circumstances, and if investors are in any doubt, they should consult their financial adviser or accountant.

This might be particularly relevant where investors have bought and sold shares in the same company several times over the years, rather than just in one go, which adds complexity to the calculation. It’s also worth bearing in mind that returns of capital made on shares held in SIPPs or ISA are entirely free from CGT, which might not only save you tax, but could also keep you from agonising over a spreadsheet for several hours.

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