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HMRC internal manual

Capital Gains Manual

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Options: market value rule: examples: options other than employment-related share options

The following examples demonstrate the application of the market value rule in circumstances where assets are acquired or disposed of when options are exercised. They show the results both where options are exercised on or after 10 April 2003, and where the options were exercised before that date.

The examples involve various permutations of the possible application of the market value rule to grant, transfer or exercise of options. The permutations are shown in the table below.

Although the following examples all involve transactions between connected persons, the results would be the same if the transactions potentially fell within the market value rule for any other reason, such as the consideration being incapable of being valued or, for example, the option being granted by an employer to an employee in circumstances where TCGA92/S149A does not apply.

Market value rule applies to

Example Grant of option Transfer of option Exercise of option
       
  Yes -– Yes
  No Yes No
  Yes Yes Yes
  No No Yes
  No Yes Yes
  Yes No No
  Yes No Yes
  Yes Yes No

Example 3

B pays his father A £1,000 for the grant of an option entitling the holder to acquire an asset from A for £5,000. The market value of the option when it is granted is £2,000. B subsequently exercises the option and acquires the asset, paying £5,000. At the time of exercise of the option, the market value of the asset is £10,000. There is no employer/employee relationship between the parties.

  • The grant of the option is a transaction between connected persons, so the market value of the option at the time of the grant is substituted for the actual consideration given and received. (Sections 18 and 17 TCGA92, see CG14550+.)
  • The transfer of the asset from A to B is also between connected persons so, following the decision in Mansworth v Jelley, if the option was exercised before 10 April 2003, the market value of the asset at the time of transfer would be substituted for the consideration actually given, and no account would be taken of the amounts given or received for, or the market value of, the option. That rule is changed by TCGA92/S144ZA for options exercised on or after 10 April 2003, so that the only market value used is that of the option at the time it was granted.

A’s asset disposal proceeds

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option at grant £2,000    
Amount received on exercise £5,000 Market value of asset at exercise £10,000
Disposal proceeds £7,000 Disposal Proceeds £10,000

B’s acquisition cost

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option at      
acquisition £2,000    
Paid on exercise £5,000 Market value of asset at exercise £10,000
Acquisition cost £7,000 Acquisition cost £10,000

Example 4

D is granted an option by C for £1,000. The acquisition is at arm’s length, and entitles the holder to acquire an asset from C for £5,000. D sells the option to his brother E for £800 at a time when the market value of the option is £1,100. E exercises the option and acquires the asset from C for £5,000. E and C are not connected. The market value of the asset when the option is exercised is £7,000. There is no employer/employee relationship between any of the parties.

  • The grant of the option is a transaction at arm’s length, so no market value substitution is required.
  • The transfer of the option from D to E is between connected persons, so the market value of the option at that time is substituted for the actual consideration paid by E to D. (Sections 18 and 17 TCGA92, see CG14550+.)
  • The transfer of the asset from C to E when the option is exercised is not between connected persons, so there is no reason to substitute market value for the actual consideration passing.

C’s asset disposal proceeds

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Received for option £1,000 Received for option £1,000
Received on exercise £5,000 Received on exercise £5,000
Disposal proceeds £6,000 Disposal proceeds £6,000

D’s transaction with the option

Acquisition cost of option £1,000
   
Market value of option at disposal £1,100
Chargeable gain £100

E’s acquisition cost of the asset

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option £1,100 Market value of option £1,100
Paid on exercise £5,000 Paid on exercise £5,000
Acquisition cost £6,100 Acquisition cost £6,100

Example 5

G acquires an option from his father F for £1,000. The option entitles the holder to acquire an asset from F for £5,000. The market value of the option when it is granted is £2,000. G sells the option to his sister H for £1,500 at a time when the market value of the option has increased to £2,500. H exercises the option and acquires the asset from her father F for £5,000. The market value of the asset at that time is £10,000.

  • The grant of the option is a transaction between connected persons, so the market value of the option at the time of the grant is substituted for the actual consideration given and received. There is no employer/employee relationship between any of the parties.
  • The transfer of the option from G to H is also a transaction between connected persons, so the market value of the option at the time of the transfer is substituted for the consideration actually given and received.
  • The transfer of the asset from F to H is also between connected persons. Following the decision in Mansworth v Jelley, if the option was exercised before 10 April 2003, the market value of the asset at the time of transfer is substituted for the consideration actually given, and no account is taken of the amounts given or received for, or the market value of, the option. That rule is changed by TCGA92/S144ZA for options exercised on or after 10 April 2003, so that the only market value used is that of the option at the time it was granted (for computing F’s disposal proceeds) or acquired (for computing H’s acquisition cost).

F’s asset disposal proceeds

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option £2,000    
Received on exercise £5,000 Market value of asset £10,000
Disposal proceeds £7,000 Disposal Proceeds £10,000

G’s transactions with the option

Market value of option at acquisition £2,000
   
Market value of option at disposal £2,500
Chargeable gain £500

H’s acquisition cost of asset

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option at      
acquisition £2,500    
Paid on exercise £5,000 Market value of asset at exercise £10,000
Acquisition cost £7,500 Acquisition cost £10,000

Example 6

K is granted an option at arm’s length by J for £1,000. The option entitles the holder to acquire an asset from J for £5,000. K then sells the option at arm’s length to L for £1,700. L is connected with J. L exercises the option and acquires the asset from the connected person J for £5,000. The market value of the asset when the option is exercised is £10,000.

  • The grant of the option is a transaction at arm’s length, so there is no reason to substitute market value for the actual consideration given and received.
  • The transfer of the option to L by K is at arm’s length so there is no reason to substitute market value for the actual consideration given and received.
  • But the transfer of the asset from J to L is between connected persons. Following the decision in Mansworth v Jelley, if the option was exercised before 10 April 2003 the market value of the asset at the time of transfer is substituted for the consideration actually given, and no account is taken of the amounts given or received for the option. That rule was changed by TCGA92/S144ZA for options exercised on or after 10 April 2003, so that the only market value that could be used is that of the option at the time it was granted or acquired. As both the grant of the option by J to K and the acquisition of the option by L from K were at arm’s length, no market value substitution is required. There is no employer/employee relationship between any of the parties.

J’s asset disposal proceeds

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Received for option £1,000    
Received on exercise £5,000 Market value of asset at exercise £10,000
Disposal proceeds £6,000 Disposal Proceeds £10,000

K’s transactions with the option

Cost of option £1,000
   
Proceeds of disposal £1,700
Chargeable gain £700

L’s acquisition cost of the asset

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Cost of option at acquisition £1,700    
Paid on exercise £5,000 Market value of asset at exercise £10,000
Acquisition cost £6,700 Acquisition cost £10,000

Example 7

N is granted an option by M at arm’s length for £1,000. The option entitles the holder to acquire an asset from M for £5,000. N sells the option to P, who is connected with both N and M, for £1,000, at a time when the market value of the option is £1,500. P exercises the option and acquires the asset from M at a time when the market value of the asset is £10,000. There is no employer/employee relationship between any of the parties.

  • The grant of the option is a transaction at arm’s length and between unconnected persons, so there is no reason to substitute market value for the actual consideration given and received.
  • The transfer of the option from N to P is a not a transaction at arm’s length, so the market value of the option is substituted for the amount actually paid by P.
  • The transfer of the asset from M to P is between connected persons. Following the decision in Mansworth v Jelley, where the option was exercised before 10 April 2003 the market value of the asset at the time of transfer is substituted for the consideration actually given, and no account is taken of the amounts given or received for the option. If the option is exercised on or after 10 April 2003, the rule is changed by TCGA92/S144ZA, so that the only market value that could be used is that of the option at the time it was granted or acquired. P acquired the option other than by way of an arm’s length bargain, so the market value of the option at the time of acquisition by P is used.

M’s asset disposal proceeds

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Received for option £1,000    
Received on exercise £5,000 Market value of asset at exercise £10,000
Disposal proceeds £6,000 Disposal Proceeds £10,000

N’s transactions with the option

Cost of option £1,000
   
Market value of option at disposal £1,500
Chargeable gain £500

P’s acquisition cost of the asset

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option at      
acquisition £1,500    
Paid on exercise £5,000 Market value of asset at exercise £10,000
Acquisition cost £6,500 Acquisition cost £10,000

Example 8

R is granted an option by Q for £1,000. The option entitles the holder to acquire an asset from Q for £5,000. Q and R are connected. The value of the option when it is granted is £2,000. R sells the option at arm’s length to S for £2,400. S is not connected with Q. S exercises the option and acquires the asset for £5,000 at a time when the market value of the asset is £10,000. There is no employer/employee relationship between any of the parties.

  • The grant of the option is a transaction between connected persons, so the market value of the option at the time of the grant is substituted for the actual consideration given and received.
  • The transfer of the option to S by R is at arm’s length, so no substitution of market value for the price actually paid is required.
  • The transfer of the asset by Q to S is also at arm’s length, so there is no substitution of market value for the price paid under the option.

Q’s asset disposal proceeds

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option at grant £2,000 Market value of option at grant £2,000
Received on exercise £5,000 Received on exercise £5,000
Disposal proceeds £7,000 Disposal Proceeds £7,000

R’s transactions with the option

Market value of option at acquisition £2,000
   
Disposal proceeds £2,400
Chargeable gain £400

S’s acquisition cost of the asset

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Cost of option £2,400 Cost of option £2,400
Paid on exercise £5,000 Paid on exercise £5,000
Acquisition cost £7,400 Acquisition cost £7,400

Example 9

V is granted an option by T for £1,000. V and T are connected. The option entitles the holder to acquire an asset from T for £5,000. The market value of the option when it is granted is £2,000. V sells the option at arm’s length to W for £2,500. W and T are connected. W exercises the option and acquires the asset from T, paying £5,000. The market value of the asset when the option is exercised is £10,000. There is no employer/employee relationship between any of the parties.

  • The grant of the option is a transaction between connected persons, so the market value of the option at the time of the grant is substituted for the actual consideration given and received.
  • The transfer of the option to W by V is at arm’s length, so no substitution of market value for the price actually paid is required.
  • The transfer of the asset from T to W is between connected persons. Following the decision in Mansworth v Jelley, if the option was exercised before 10 April 2003 the market value of the asset at the time of transfer is substituted for the consideration actually given, and no account is taken of the amounts given or received for the option. If the option was exercised on or after 10 April 2003, the rule is changed by TCGA92/S144ZA, so that the only market value that could be used is that of the option at the time it was granted or acquired. W acquired the option by way of an arm’s length bargain, so there is no substitution of the market value of the option for the consideration actually given by W to V.

T’s asset disposal proceeds

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option at grant £2,000    
Received on exercise £5,000 Market value of asset at exercise £10,000
Disposal proceeds £7,000 Disposal Proceeds £10,000

V’s transactions with the option

Market value of option at acquisition £2,000
   
Disposal proceeds £2,500
Chargeable gain £500

W’s acquisition cost of the asset

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Cost of option £2,500    
Paid on exercise £5,000 Market value of asset at exercise £10,000
Acquisition cost £7,500 Acquisition cost £10,000

Example 10

Y is granted an option by X for £1,000. X and Y are connected. The option entitles the holder to acquire an asset from X for £5,000. The market value of the option when it is granted is £2,500. Y sells the option to Z for £3,000. Y and Z are connected, but Z is not connected with X. The value of the option when it is sold by Y to Z is £3,800. Z exercises the option and acquires the asset from X, paying £5,000. The market value of the asset when the option is exercised is £10,000. There is no employer/employee relationship between any of the parties.

  • The grant of the option is a transaction between connected persons, so the market value of the option at the time of the grant is substituted for the actual consideration given and received. (Sections 18 and 17 TCGA92, see CG14550+.)
  • The transfer of the option from Y to Z is also a transaction between connected persons, so the market value of the option at the time of the transfer is substituted for the consideration actually given and received.
  • The transfer of the asset by X to Z is at arm’s length, so there is no substitution of market value for the price paid under the option.

X’s disposal proceeds

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option at grant £2,500 Market value of option at grant £2,500
Received on exercise £5,000 Received on exercise £5,000
Disposal proceeds £7,500 Disposal Proceeds £7,500

Y’s transactions with the option

Market value of option at acquisition £2,500
   
Market value of option at disposal £3,800
Chargeable gain £1,300

Z’s acquisition cost of the asset

Exercise on or after 10 April   Exercise before 10 April 2003  
       
2003      
Market value of option at   Market value of option at  
acquisition £3,800 acquisition £3,800
Paid on exercise £5,000 Paid on exercise £5,000
Acquisition cost £8,800 Acquisition cost £8,800