A share buyback (also known as a company purchase of own shares) allows a UK company to repurchase shares it has previously issued. Share buybacks serve various strategic purposes, such as redistributing surplus cash, facilitating shareholder exits, or restructuring ownership. There is a strict, prescriptive framework under the Companies Act 2006 that governs share buybacks. Getting it wrong can void the transaction and even result in personal liability of directors. Below, we simplify the legal framework, explore common reasons for buybacks, their risks and benefits, as well as key tax considerations and common pitfalls.
Word of warning – share buybacks is a complex area and mistakes can have serious consequences. If your company is thinking of purchasing its own shares – legal advice is crucial. Our specialist corporate/commercial team at JPP Law can guide you through the process.
Why Companies Undertake Share Buybacks
Companies repurchase shares for different strategic reasons. These goals usually affect how the buyback is funded and structured.
Returning Surplus Capital
Some businesses accumulate more cash than they need. Rather than paying a large one-off dividend, they might buy back shares to reduce the total number in circulation. This often boosts earnings per share and can benefit the remaining owners.
Supporting Share Price
In public markets, a buyback can suggest that management feels the shares are undervalued. Although there’s no guarantee the price will rise, reducing the number of shares in the market can improve certain financial ratios and possibly attract more investors.
Facilitating Shareholder Exit
In private companies, finding an outside buyer for shares can be tough. A buyback gives an internal solution for someone looking to exit—perhaps due to retirement. It also keeps ownership within the company’s existing group, removing the need for outside investors.
Capital Restructuring
Reducing the number of shares can simplify ownership and make future moves (like mergers or share issues) less complicated. It might also remove small or unwanted shareholdings if that suits the company’s plans.
Employee Share Schemes
Some companies hold the repurchased shares in treasury and later use them for employee share plans. This lets them reward staff without creating more shares and diluting existing ownership.
Key Requirements for Share Buybacks
Each share buyback hinges on following the right formalities, obtaining proper approvals, and completing statutory filings on time. Below are some of the key requirements for a company to purchase its own shares:
- Articles of Association: The company’s articles of association must not prohibit share buybacks, or will need amending.
- Written Buyback Contract: The terms of the share buyback agreed between the selling shareholder(s) and the company should be fully documented in a comprehensive contract.
- Shareholder Approval: The shareholders must resolve to approve the written buyback contract (excluding the shareholder selling their shares back to the company). The agreement itself must be made available to the shareholders for at least 15 days before any resolution.
- Fully Paid Up Shares, Purchased in Full Cash: For private limited companies, only fully paid-up shares can be bought back. Any shares purchased must be paid in full by cash to the shareholder on completion.
- Funding Compliance: The buyback must be financed appropriately, with common methods being:
- Distributable profits – these are surplus funds that could be used for dividends, but those reserves must be confirmed on audited accounts, and possibly interim statements. The transaction can normally be approved by ordinary resolution (meaning more than 50% of shareholders vote in favour) but depends on articles.
- Capital – available to private limited company who have insufficient reserves from distributable profits. This involves extra steps, such as a obtaining a director’s solvency statement, auditor’s report, giving notice to creditors and allowing time for objections. A special resolution (at least 75% shareholder approval) is required for funding share buybacks from capital and the director’s solvency statement should be made no more than 15 days before the passing of the special resolution. Note a de minimis exception applies for small buybacks where the full procedures don’t apply.
- A new issue of shares – the proceeds of a fresh issue of shares to new willing investors can be used to purchase shares back from existing shareholders, with both transaction in close proximity.
- Filings: registers should be updated and key forms filed at Companies House to notify them of the transaction. This includes form SH03 (Return of Purchase of Own Shares – which must be stamped by HMRC if the purchase exceeds £1,000) and Form SH06 for the cancellation of any shares, within 28 days. Special resolutions for share buybacks from capital must be filed within 15 days of being passed.
What Are the Risks and Benefits for Stakeholders?
During a company purchase of own shares, there can be tangible advantages for the company and its shareholders. However, it also involves some legal and commercial risks. Below are some of the potential benefits and risks associated with a share buyback.
Benefits for the Company
A buyback can improve metrics like earnings per share and return on equity by reducing the number of outstanding shares. This may make the business more attractive to investors and give management greater control if fewer shareholders remain. A buyback can also be quicker and more flexible than distributing large dividends when the aim is to reallocate surplus funds.
Benefits for Remaining Shareholders
Remaining shareholders may benefit from a bigger percentage of ownership if they do not sell, along with potentially higher share prices. There’s often a sense of stability when a company repurchases shares, as it can indicate confidence in the firm’s long-term profitability.
Benefits for Exiting Shareholders
Shareholders seeking an exit can negotiate a straightforward sale of their stake without having to find an external buyer. If the transaction meets the relevant criteria, they may also qualify for capital gains tax treatment instead of being taxed under dividend rules.
Risks for the Company
If the company overextends its cash resources or piles on debt to finance a buyback, that can undermine liquidity and stability. Directors must ensure that the process follows every procedural step in the Companies Act 2006, otherwise, the repurchase could be deemed unlawful. They must also confirm there is no adverse impact on creditors or minority shareholders.
Risks for Remaining Shareholders
A buyback might not always deliver the intended share price lift, particularly if market conditions deteriorate or if the business needs the funds later for unexpected expenses. Shareholders could see dividends cut back if the company depletes reserves on the repurchase.
Risks for Exiting Shareholders
Without careful attention to HMRC’s requirements, proceeds from a buyback may be reclassified as dividend income rather than capital gains. Sellers may also feel they’re not receiving fair value if they have limited bargaining power or urgent reasons to sell.
What Are the Potential Tax Implications?
HMRC usually treats any excess paid over the original subscription capital to the shareholder as a dividend, so it is taxed as income accordingly. In certain circumstances, share buybacks may be treated as a capital gain (taxed at a lower rate), including where:
• The buyback is for the benefit of the company’s trade.
• The company is an unquoted trading company or holding company of a trading group.
• The seller is a UK tax resident who is no longer connected with the company after buyback.
• The seller’s interest in the company is significantly reduced (at least 25%).
• Shares were held for at least 5 years
Generally, the purchase price paid for shares is not tax-deductible for a company, it is treated as a capital transaction, not a business expense. Either way, to ensure the seller’s proceeds are treated correctly – HMRC clearance should be sought in advance to confirm CGT vs. dividend tax.
As mentioned above, the company will owe 0.5% stamp duty on the purchase if the amount is over £1,000.
What Are the Common Pitfalls?
Even experienced teams can trip up on the precise rules around share buybacks. Some frequent mistakes include:
- Not Confirming Distributable Profits: Without enough reserves, a share buy back out of distributable profits becomes an unlawful distribution.
- Wrong Approval Threshold: Using an ordinary resolution instead of a special one (or vice versa) can void the transaction.
- Late or Incorrect Filings: Forms SH03 or SH06 must reach Companies House within 28 days—delays can draw penalties and cause confusion.
- Assuming You’ll Get Capital Treatment: HMRC may reclassify proceeds as dividend income if conditions aren’t met.
- Skipping Contract Disclosure: Failing to share the buyback contract with shareholders before the vote can invalidate the approval.
Because these rules surrounding share buybacks can be quite technical—and because getting them wrong can have serious consequences, it’s wise to get legal advice before proceeding. A solicitor can help you complete the paperwork, structure the deal correctly, and make sure you don’t fall foul of Companies House or HMRC.
Need Legal Advice on Share Buybacks?
A company purchase of own shares can be a useful way for companies to deploy surplus capital, streamline their shareholder base, or help investors exit smoothly. But they also demand careful attention to legal and tax requirements. Even for seasoned professionals, the process is detail-intensive and carries significant risk if handled incorrectly.
If you’re considering a buyback, or simply want to learn more about your options, we at JPP Law are here to help. Our experienced solicitors will guide you through each step, from ensuring your articles permit the repurchase, to drafting the buyback contract and managing the necessary filings. We also partner with tax specialists, so you can move forward with clarity and confidence.
If you would like further information and advice please book a complimentary call with a member of our commercial law team.
