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HMRC internal manual

Capital Gains Manual

HM Revenue & Customs
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Capital contributions to companies: other contributions not allowable

Where shares are disposed of in a company to which a capital contribution has been paida claim may be made for a deduction in respect of that contribution in the capital gaincomputation. The claim will normally be for the contribution to be allowable asenhancement expenditure under TCGA92/S38 (1) (b).

Although a capital contribution will typically affect the value of the shares in thecompany to which the contribution is made, it does not represent either expenditure on theshares, or expenditure reflected in the state or nature of the shares at the time of theirdisposal.

The Special Commissioners decision in the case of The Trustees of the F. D. Fenston WillTrusts v HMRC (SpC589/07) confirmed that a capital contribution which is not made as partof the terms for the issue of shares is not, in the absence of anything to indicate thatthe rights and privileges attaching to the shares have been enhanced, an allowablededuction within TCGA92/S38 when shares in the company are disposed of. In particular, thecapital contribution does not represent enhancement expenditure within TCGA92/S38 (1) (b).

In applying this decision it may be argued there are circumstances were the tax resultwill be distorted if the amount of tax payable takes account of value realised, directlyor indirectly, by a shareholder from a capital contribution, but the capital contributionitself is not reflected in allowable expenditure for capital gains purposes. Below aresome examples where such distortion may be alleged.

  • A capital contribution is returned by a company to its shareholders as a dividend or distribution and they are taxed on the distribution but the shareholder will have had no deduction for the contribution. Our view is that a dividend or distribution is paid out of the surplus of the company so therefore is not a direct return of the capital contribution paid by the shareholder (in which case it is probably a loan). The nature of the receipt is changed when a dividend or distribution is made in comparison with the time when the capital contribution was paid.
  • A capital contribution is retained by the company at a time when there is a sale of shares in the company. The contribution may be reflected in an increased consideration for the disposal of the shares but a capital gains deduction will not be given.
  • There is similar scope for distortions where a capital contribution is followed by a share exchange, reconstruction or amalgamation treated as a share reorganisation for capital gains purposes, see CG52500+. This is then followed by a disposal of the new holding for an amount which reflects the capital contribution made to the company in which the original shares were held, and the capital contribution is not allowable expenditure on the original shares.

In these last two cases, unless the capital contribution resulted in a change in therights and privileges attaching to the shares, and that change is reflected in the natureof the shares at the time of their disposal, it is not an allowable deduction withinTCGA92/S38 (1) (b) when those shares in the company, or replacement shares in that or adifferent company acquired by virtue of a share reorganisation are disposed of.

There may also be cases where companies call on their shareholders to provide furthercapital to meet a specified purpose, in circumstances where a shareholder who fails toprovide the additional funds may lose the entitlement to the shares held. In thissituation, depending on the particular facts, the shareholder may be able to establishthat the additional payment represents expenditure on preserving or defending the title tothe shares within the terms of TCGA92/S38 (1) (b).