ERSM30508 - Restricted securities: exchanges of restricted securities on or after 17 July 2014 - application of the chapter 2 charging provisions - examples

See ERSM30400 for the general rules on the calculation of the Chapter 2 charge and explanations of the terms used below and ERSM30420 and ERSM30430 for examples of the calculation of the charge.

(As always, the following are general examples, and the treatment in specific cases will be determined by the facts. In particular, the effect of various restrictions on the market value of the securities is purely for the purposes of illustration and should not be taken as a guide to the effect of restrictions on the market value of securities in actual cases.)

Example 1: Exchange of restricted securities with an election under s431(1)

110 shares with a UMV of £100 and an AMV of £60, which are forfeitable for 3 years and have a sale restriction for 5 years, are awarded on 1 January 2014. An S431(1) election under ITEPA03/S431(1) was made, so the UMV of the old securities was earnings at the time of the award.

On 1 January 2015 the UMV is £110. They are exchanged for 50 shares with a UMV of £100 and cash of £10. A 2-year forfeiture restriction and a 4-year sale restriction apply to the new shares.

Sections 426 to 430 did not apply to the old securities because of the s431(1) election. With the application of ITEPA03/S430A(7), those sections do not apply to the new securities either.

Example 2: Exchange of restricted securities with no election

110 shares with a UMV of £100 and an AMV of £60, which are forfeitable for 3 years and have a sale restriction for 5 years, are awarded on 1 January 2014. No election is made.

On 1 January 2015 the UMV is £110.They are exchanged for 50 shares with a UMV of £100 and cash of £10. A 2-year forfeiture restriction and a 4-year sale restriction apply to the new shares.

The money’s worth of the old securities was exempt from an earnings charge at the time of the award.

On the exchange the disposal of the old securities is treated as two disposals:

  • a disposal of the appropriate amount of the old securities, which is a chargeable event within ITEPA03/S427(3)(c), for £10; and
  • a disposal of the remaining securities, which is not a chargeable event within section 427(3)(c) and does not give rise to any liability to income tax.

The appropriate amount of the old securities is the total number of the old securities, multiplied by the value of the cash consideration and divided by the total consideration, so:

110 x 10/110 = 10

The charge on the disposal of the 10 shares is on their UMV of £10, multiplied by IUP of 1 = £10. OP is nil, as the restrictions have effectively been lifted. (See ERSM30415.)

The IUP of the old securities would have been 1 if there had been a chargeable event, so if there is a chargeable event in relation to the new securities their IUP will be 1.

The forfeiture restriction lifts on 1 January 2017 when the UMV is £150. The AMV at that time is £135.

The charge on the lifting of the forfeiture restriction is on UMV of £150, multiplied by (IUP of 1 minus OP of 0.1) = £135.

The charge when the sale restriction lifts will be on the UMV of the securities at that time, multiplied by 0.1.

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Example 3: Exchange of old securities with a <5-year-forfeiture-restriction for new restricted securities without a forfeiture restriction> {#IDAIZAIE}</5-year-forfeiture-restriction>

110 shares with a UMV of £100 and an AMV of £60, which are forfeitable for 3 years and have a sale restriction for 5 years, are awarded on 1 January 2014. No election is made.

On 1 January 2015 the UMV is £110. They are exchanged for 50 shares with a UMV of £110. There is no forfeiture restriction but a 4-year sale restriction applies to the new shares. The AMV of the new securities is £88.

The money’s worth of the old securities was exempt from an earnings charge at the time of the award.

On the exchange, by virtue of ITEPA03/S430A(11) and (12) the new securities are deemed to be subject to a forfeiture restriction within ITEPA03/S425(2) and that deemed restriction is treated as being removed immediately after the exchange, so that:

(a) rollover relief applies to disposal of the old securities; and

(b) there is a chargeable event in respect of the removal of the deemed forfeiture restriction on the new securities.

The IUP of the old securities would have been 1 if there had been a chargeable event, so, for the chargeable event that occurs by virtue of ITEPA03/S430A(12), the IUP of the new securities will be 1.

The charge on the deemed lifting of the deemed forfeiture restriction is on UMV of £110, multiplied by (IUP of 1 minus OP of 0.2) = £88.

The charge when the sale restriction lifts will be on the UMV of the securities at that time, multiplied by 0.2.

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Example 4: Effect of a chargeable event prior to exchange

110 shares with a UMV of £100 and an AMV of £60, which are forfeitable for 3 years and have a sale restriction for 5 years, are awarded on 1 January 2014. No election is made.

On 1 January 2018 the UMV is £220. They are exchanged for 200 shares with a UMV of £200 and cash of £20. A 1-year sale restriction applies to the new shares.

The money’s worth of the old securities was exempt from an earnings charge at the time of the award.

The forfeiture restriction lifts on 1 January 2017 when the UMV is £200. The AMV at that time is £180.

The charge on the lifting of the forfeiture restriction is on UMV of £200, multiplied by (IUP of 1 minus OP of 0.1) = £180.

On the exchange the disposal of the old securities is treated as two disposals:

  • a disposal of the appropriate amount of the old securities, which is a chargeable event within ITEPA03/S427(3)(c), for £20; and
  • a disposal of the remaining securities, which is not a chargeable event within section 427(3)(c) and does not give rise to any liability to income tax.

The appropriate amount of the old securities is the total number of the old securities, multiplied by the value of the cash consideration and divided by the total consideration, so:

110 x 20/220 = 10

The charge on the disposal of the 10 shares is on UMV of £20, multiplied by (IUP of 1 minus PCP of 0.9) = £2. OP is nil, as the restrictions have effectively been lifted. (See ERSM30415.)

The IUP of the old securities was 1, so if there is a chargeable event in relation to the new securities their IUP will be 1. PCP is:

  • the aggregate of PCP determined in accordance with ITEPA03/S428(4), which is nil - there have been no previous chargeable events in relation to the new securities; and
  • what PCP relating to the old securities would have been if a chargeable event had occurred immediately before the exchange but after any chargeable events that actually did occur before the exchange, which is IUP of 1 minus PCP of nil, minus OP of 0.1 = 0.9.

The sale restriction lifts on 1 January 2019 when the UMV is £250.

The charge on the lifting of the sale restriction is on UMV of £250, multiplied by (IUP of 1 minus PCP of 0.9 and OP of nil) = £25.

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Example 5: Effect of chargeable events prior to and following exchange

110 shares with a UMV of £100 and an AMV of £70, which have no voting rights for 3 years and a sale restriction for 5 years, are awarded on 1 January 2014. No election is made. Therefore there is a charge on the AMV of £70 at award.

On 1 January 2018 UMV is £220. They are exchanged for 200 shares with a UMV of £200 and cash of £20. A 1-year forfeiture restriction and a 3-year sale restriction apply to the new shares.

The money’s worth of the old securities (of £70) was earnings at the time of the award.

The voting restriction lifts on 1 January 2017 when the UMV is £200. The AMV at that time is £175.

The charge on the lifting of the voting restriction is UMV of £200, multiplied by (IUP of 0.3 minus OP of 0.125) = £35.

On the exchange the disposal of the old securities is treated as two disposals:

  • a disposal of the appropriate amount of the old securities, which is a chargeable event within ITEPA03/S427(3)(c), for £20; and
  • a disposal of the remaining securities, which is not a chargeable event within section 427(3)(c) and does not give rise to any liability to income tax.

The appropriate amount of the old securities is the total number of the old securities, multiplied by the value of the cash consideration and divided by the total consideration, so:

110 x 20/220 = 10

The charge on the disposal of the 10 shares is on UMV of £20, multiplied by (IUP of 0.3 minus PCP of 0.175) = £2.5. OP is nil, as the restrictions have effectively been lifted. (See ERSM30415.)

The IUP of the old securities was 0.3, so if there is a chargeable event in relation to the new securities their IUP will be 0.3. PCP of the new securities is:

  • the aggregate of PCP determined in accordance with ITEPA03/S428(4), which is nil - there have been no previous chargeable events in relation to the new securities; and
  • what PCP would have been for the old securities if a chargeable event had occurred immediately before the exchange but after any chargeable events that actually did occur before the exchange, which is IUP of 0.3 minus PCP of nil, minus OP of 0.125 = 0.175.

The forfeiture restriction lifts on 1 January 2019 when the UMV is £250. The remaining 2 years of the sale restriction means that the AMV is £225.

The charge on the lifting of the forfeiture restriction is on UMV of £250, multiplied by (IUP of 0.3 minus PCP of 0.175 and OP of 0.1) = £6.25.

The charge when the sale restriction lifts will be on the UMV of the securities at that time, multiplied by 0.1.

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Example 6: Effect of extension of forfeiture beyond 5 years from acquisition of the old securities

100 shares with a UMV of £100 and an AMV of £60, which are forfeitable for 3 years and have a sale restriction for 5 years, are awarded on 1 January 2014. No election is made.

On 1 January 2016 the UMV is £150. They are exchanged for 200 shares with UMV of £150. A 4-year forfeiture restriction applies to the new shares, expiring on 1 January 2020. There is no separate sale restriction.

The money’s worth of the old securities was exempt from an earnings charge at the time of the award.

There is a restriction on the new securities by virtue of which they are within ITEPA03/S423(2) and, by 1 January 2019, the restriction has not been removed or varied to take them out of that subsection.

By virtue of ITEPA03/S430A(14), the forfeiture restriction is treated as lifting on 1 January 2019

The IUP of the old securities would have been 1 if there had been a chargeable event, so for the purposes of the chargeable event that occurs on 1 January 2019 the IUP of the new securities is 1 and the full amount of the UMV at that date will be employment income.

The actual lifting of the forfeiture restriction on 1 January 2020 will not be a chargeable event because, for the purposes of Chapter 2, that restriction was treated as removed on 1 January 2019.

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Example 7: Effect of extension of forfeiture beyond 5 years from acquisition of the old securities, with additional restriction

100 shares with a UMV of £100 and an AMV of £60, which are forfeitable for 3 years and have a sale restriction for 5 years, are awarded on 1 January 2014. No election is made.

On 1 January 2016 the UMV is £150. They are exchanged for 200 shares with a UMV of £150. A 4-year forfeiture restriction applies to the new shares, expiring on 1 January 2020. There is also a sale restriction until 1 January 2022.

The money’s worth of the old securities was exempt from an earnings charge at the time of the award. There is a restriction on the new securities by virtue of which they are within ITEPA03/S423(2) and, by 1 January 2019, the restriction has not been removed or varied to take them out of that subsection.

By virtue of ITEPA03/S430A(14), the forfeiture restriction is treated as lifting on 1 January 2019.

The IUP of the old securities would have been 1 if there had been a chargeable event, so for the purposes of the chargeable event that occurs on 1 January 2019 the IUP of the new securities is 1. The UMV of the securities at 1 January 2019 is £200 and, since the forfeiture restriction is treated for the purposes of Chapter 2 as being removed at that date, the AMV at the same date will take only the continuing sale restriction into account. The AMV is £180.

The charge at 1 January 2019 is on UMV of £200, multiplied by (IUP of 1 minus OP of 0.1) = £180.

The actual lifting of the forfeiture restriction on 1 January 2020 will not be a chargeable event because, for the purposes of Chapter 2, that restriction was treated as removed on 1 January 2019. Nevertheless, the securities continue to be restricted for the purposes of Chapter 2 by reason of the continuing sale restriction.

The charge when the sale restriction lifts will be the UMV of the securities at that time, multiplied by 0.1.

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Example 8: Successive exchanges - the second exchange is for non-forfeitable securities

100 shares in X Ltd with a UMV of £100 and an AMV of £60, which are forfeitable for 3 years, are awarded on 1 January 2014. No election is made.

On 1 January 2016 the UMV is £150. They are exchanged for 200 shares in Y Ltd with a UMV of £150. A 5-year forfeiture restriction applies to the new shares, expiring on 1 Jan 2021.

On 1 January 2018 the UMV is £200. The shares in Y Ltd are exchanged for 100 shares in Z Ltd with a UMV of £200. A 2-year sale restriction applies to the new shares, expiring on 1 January 2020, making their AMV at the time of the exchange £180.

The money’s worth of the X Ltd shares was exempt from an earnings charge at the time of the award.

The exchange of shares in X Ltd for shares in Y Ltd is within ITEPA03/S430A(5) and there is therefore no tax charge on exchange.

At the time of the exchange the shares in X Ltd are still within ITEPA03/S423(2) so that ITEPA03/S430A(11) provides that subsections (12) to (14) can apply.

All of the shares in Y Ltd are within ITEPA03/S423(2), so ITEPA03/S430A(12) is not relevant.

The exchange of shares in Y Ltd for shares in Z Ltd means that, in relation to the shares in Y Ltd, the point in time which is 5 years after the acquisition of the shares in X Ltd is never reached, so that subsections (13) and (14) are not applied.

There is a restriction on the shares in Y Ltd by virtue of which they are within ITEPA03/S423(2).

The exchange of shares in Y Ltd for shares in Z Ltd is within ITEPA03/S430A(5).

At the time of the exchange the shares in Y Ltd are still within ITEPA03/S423(2) so that ITEPA03/S430A(15) provides that subsection (16) applies. That subsection provides that (12) to (14) can apply.

There is no restriction on the shares in Z Ltd virtue by which they are within ITEPA03/S423(2). ITEPA03/S430A(12) taken together with ITEPA03/S430A(16)(a) provides that the shares in Z Ltd are treated as if there were a restriction on them corresponding to the restriction on the Y Ltd shares at the time of the exchange, and as if that deemed restriction is removed immediately after the exchange.

So there is a charge at the time of the exchange of Y Ltd shares for Z Ltd shares on:

UMV of £200 multiplied by (IUP of 1 minus OP of 0.1) = £180.

The charge when the sale restriction lifts will be on the UMV of the securities at that time, multiplied by 0.1.

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Example 9: Successive exchanges - forfeiture restriction still in place 5 years after the original acquisition

100 shares in X Ltd with a UMV of £100 and an AMV of £60, which are forfeitable for 3 years, are awarded on 1 January 2014. No election is made.

On 1 January 2016 the UMV is £150. They are exchanged for 200 shares in Y Ltd with a UMV of £150. A 5-year forfeiture restriction applies to the new shares, expiring on 1 January 2021.

On 1 January 2018 the UMV is £200. The shares in Y Ltd are exchanged for 100 shares in Z Ltd with a UMV of £200. A 3-year forfeiture restriction applies to the new shares, expiring on 1 January 2021.

The money’s worth of the X Ltd shares was exempt from an earnings charge at the time of the award.

The exchange of shares in X Ltd for shares in Y Ltd is within ITEPA03/S430A(5) and there is therefore no tax charge on exchange.

At the time of the exchange the shares in X Ltd are still within ITEPA03/S423(2) so that ITEPA03/S430A(11) provides that subsections (12) to (14) can be applied.

All of the shares in Y Ltd are within ITEPA03/S423(2), so ITEPA03/S430A(12) is not relevant.

The exchange of shares in Y Ltd for shares in Z Ltd means that, in relation to the shares in Y Ltd, the point in time which is 5 years after the acquisition of the shares in X Ltd is never reached, so that a charge by virtue of subsection (14) does not arise.

The exchange of shares in Y Ltd for shares in Z Ltd is within ITEPA03/S430A(5) and therefore no tax charge arises on exchange.

At the time of the exchange the shares in Y Ltd are still within ITEPA03/S423(2) so that ITEPA03/S430A(15) provides that subsection (16) applies. That subsection provides that (12) to (14) can apply.

All of the shares in Z Ltd are within ITEPA03/S423(2), so ITEPA03/S430A(12) is not relevant.

The restriction on the Z Ltd shares which puts them within ITEPA03/S423(2) is not removed within 5 years of the acquisition of the shares in X Ltd (the “original forfeitable securities” as identified by ITEPA03/S430A(17)), so ITEPA03/S430A(14) provides that the restriction is treated as being removed on 1 January 2019.

The charge is on the UMV of the shares in Z Ltd on 1 January 2019, multiplied by IUP of 1.