Introductory: meaning of ordinary share capital: how “ordinary” shares are distinguished
The general meaning of ordinary share capital (see CTM00511) depends on identifying and excluding capital to which the holders have a right to a dividend at a fixed rate but have no other right to share in a dividend. (There are, though, some slightly different definitions of ordinary shares or shares for specific purposes, see for example CTA10/S160 (group relief, CTM81010) and CTA09/S931U (distribution exemption, INTM653050)).
The concept of “ordinary capital” originated in the wartime Excess Profits Duty at F(2)A1915/SCH4/PART1/PARA6, for the purposes of applying the tax to a subsidiary as though it were a branch of the parent; the aim of that rule being to distinguish equity capital from loan capital for this purpose.
That distinction remains relevant today and is expressed in the current definition. The aim of the current tax legislation is to exclude instruments that are in legal terms shares but in effect represent perpetual debt, namely fixed rate preference shares. The definition appears fairly straightforward but has given rise to a number of issues, addressed in the following table.
Some of the issues are finely balanced, and the table is, except where authority is quoted, only a guide. If arrangements appear to reflect uncommercial elements designed to circumvent the purpose of the legislation in identifying ordinary share capital the principles will be applied accordingly.
|Description||Ordainary Share Capital||Comment|
|Share with no dividend rights||Yes||CTA10/S1119 is silent on rights other than fixed rate of return|
|Fixed rate preference share with zero coupon||Yes||Right to nothing is not a right to something. See McQuillan v HMRC  UKUT 344|
|Fixed rate preference share with small coupon||No-but see comment||Could be fact dependent, particularly where there are avoidance concerns|
|Fixed rate of 10% cumulative||No||Holder knows return is fixed even when profits not available|
|Fixed rate of 10% non-cumulative||Yes||Some years no dividend will be paid so is more like equity than debt|
|Preference share with right to “tiered” dividends, meaning they increase on a pattern over time||Yes||Rate is not fixed as can change depending on tier. There is more than one fixed rate, and in context this is not a case where the singular should include the plural|
|Right to greater of specified sum or dividend paid in respect of another class of shares||Yes||Rate is not fixed and similar analysis applies as for tiered dividends - there is right to a return at one of two fixed rates|
|Fixed rate preference share but with rights in liquidation||No - but this is finely balanced and may depend on facts of case||A distribution in liquidation is of surplus assets rather than of profits. But, depending on the circumstances, a purposive approach might point to a different conclusion|
|Preference share with 2 alternative fixed rates||Yes||No fixed rate but a rate that varies between two fixed levels. Similar analysis as for tiered dividends|
|Fixed rate preference share but with right to further dividend payment were certain events to occur (e.g. breach of banking covenants)||Yes||Right to further payment is another right to share in the profits. But conclusion might be different if circumstances very unlikely to materialise|
|Preference shares where coupon compounds over time or a preference share where a rate of interest is added if dividend is unpaid||Borderline – this is finely balanced and may depend on facts of case. See Stephen Warshaw v HMRC, an FTT case (TC/2017/08674) which is of persuasive rather than precedent authority||If the rate is fixed and cumulative arguably the shares are not ordinary share capital as there is in the end nothing beyond a right to a return at a fixed rate, albeit that the coupon compounds.Where a further rate of interest is added if the dividend is unpaid, the issue is whether the additional interest is seen as a return on the original investment, which would support fixed rate. But if seen as a separate return on amounts outstanding there would be a right to two differing fixed rates, and the tiered dividends analysis would apply|
|Fixed rate of 10% cumulative but dividend only paid on regulator authorisation / fixed rate of 10% non-cumulative but dividend can only be paid if regulator authorises||Depends on whether cumulative or non-cumulative||Third party involvement does not affect underlying right to income. There is an underlying fixed rate where it is cumulative and the regulator can only prevent payment.|
|LIBOR plus a fixed percentage||Yes||Rate is not fixed because LIBOR varies – doesn’t matter that it is a fixed point of reference|
See CTM00511 for an introduction to the topic of ordinary share capital.