HMRC has recently issued a welcome statement clarifying its position on contributions made by a company to the trustees of an Employee Benefit Trust (EBT), and confirming that its approach has not changed as a result of recent updates to EOT legislation.

The clarification addresses whether such contributions should be treated as a distribution “in respect of shares.” HMRC has confirmed that it “does not generally regard contributions by a company to the trustees of an EBT as distributions ‘in respect of shares’ where those contributions are intended to allow the EBT to act as a warehouse for shares pending award or as a market-maker to acquire vested shares in the operation of a tax advantaged or non-tax advantaged employee share scheme, and do not form part of a scheme or arrangement for the extraction of value to the shareholders.”

HMRC also stated “There has been no change of view in this area.” – so don’t expect any updates to guidance / legislation.

 

What does this mean and why does it matter?

To understand why this clarification is significant, it is important to understand the context of how employee owned businesses where a majority of shares sits with an Employee Ownership Trust (EOT) are expected to run an internal share market where there are shares or share options held by individuals. This is often called a hybrid model, where a majority of the company’s shares are held in the EOT, but some shares are directly owned by individuals – this is often where the selling owners / founders have retained some shares in the initial sale to the EOT or some or all of the next generation of employees received shares or share options, often under an Enterprise Management incentive scheme.

Following the changes to the legislation regarding EOTs in October 2024, HMRC published further guidance regarding the rules around gifts made by Companies owned by EOTs to the EOT itself.

HMRC now considers that gifts / capital contributions from a company to an EOT are potentially taxable as income in the hands of the EOT – but a specific relief (the “section 401ZA” relief) was introduced on 30th October 2024 that means there is no tax to pay on these gifts so long as the gifts are used to:

1. fund upfront and ongoing payments of the purchase price for shares sold to the EOT when it acquired the majority shareholding in the company; and
2. cover interest payments and other costs related to the EOT’s purchase of shares, including the costs related to any borrowing and payment of stamp duty.

We wrote an article on this at the time which sets this out in more detail.

However, crucially, what is missing from the above qualifying costs for the section 401ZA relief are any contributions made for broader purposes, such as funding the EOT to purchase subsequent shares from individuals (whether previous owners holding a retained shareholding or shares that have vested through an EMI scheme).

Historically, EOTs could have been used as a share warehouse and market maker to enable individual shareholders to safely turn shares into cash – this was one of the great appeals of the structure. But with the HMRC guidance update, it appeared this was no longer possible without the risk of triggering a tax charge in the hands of the EOT.

 

What this means for businesses with hybrid EO structures

This is where the EBT clarification becomes practically important. For businesses operating a hybrid structure, this question of how individuals, usually employees, can sell their shares without adverse tax consequences or compromising the independence of the company has been hanging over their heads for the last 18 months.

HMRC’s statement provides a practically useful answer for this. An EBT can be used with greater confidence as the vehicle to which individual shareholders can sell their shares to, with the company funding those purchases via a contribution to the EBT. This route should not attract any tax charge in the hands of the EBT, unlike the EOT, and there is no requirement to file a tax return to claim relief.

Provided the arrangement is structured correctly and does not amount to an extraction of value to shareholders, this is a cleaner and more straightforward mechanism for hybrid businesses looking to offer employees a meaningful and tax-efficient market for their shares.

That said, some uncertainty remains. The question of what constitutes “a scheme or arrangement for the extraction of value to shareholders” is not fully defined, and further guidance from HMRC in this area would be welcome. Our view at Baxendale is that a statutory clearance should still be sought in most cases — this remains good practice and provides an important layer of protection for businesses and their advisers.

The statement was shared by HMRC with the ICAEW and the Employee Ownership Association (EOA), and we understand that further guidance may follow in due course. We will continue to engage with HMRC, alongside the EOA, on any remaining areas where additional clarity would be useful.

 

In summary

The TLDR version: an EBT now offers a practical route for individual shareholders in a hybrid EOT structure to sell their shares, without attracting a tax charge in the hands of the trust which would be the case if using the EOT under HMRC’s updated guidance.

This will hopefully come as a relief to the many employee owned companies which do run hybrid structures in some shape or form.

If your company has a hybrid employee ownership structure and you’re thinking about individuals realising some value from their shares, you will almost certainly need an advisor to help you with the process of setting up the EBT and producing the documentation around the option exercise (where relevant) and share purchase.

We at Baxendale are in the unique position of both having experience of setting up EBTs as part of broader employee owned structures for many years; and having spearheaded the conversation with HMRC to gain clarity in this area alongside the Employee Ownership Association.

If you have questions about how this affects your company or your EOT structure, please get in touch, we’re happy to have a conversation.