David Kirk, director at Kirks Insolvency, explains what a Section 110 scheme of arrangement is, and the reasons why a business may look to use one.
A Section 110 scheme of arrangement is a process by which a business or assets within a company are moved into another limited company, or companies. A Section 110 can, in certain circumstances, also be used in shareholder disputes, meaning that there are changes in the shareholdings as well.
One important point that is often overlooked about a Section 110 scheme of arrangement is that they are an interaction of insolvency law and tax rules, and as such, demand very careful planning.
To proceed down this route requires you to work out what assets and liabilities you have within the company now, and which of the new companies you expect these assets and liabilities to end up in. Establish these on paper, and ask HMRC for tax clearance before you do any reorganisation of the company.
Why use a Section 110 scheme of arrangement?
One of the primary reasons for using a Section 110 is to split a limited company’s business into two, or to separate out shareholders with different objectives without paying any corporation tax or capital gains tax.
The most common three reasons for using a Section 110 are:
1) A limited company carries out two types of trade that shareholders want to separate
For example, an electric car manufacturer makes and sells cars, but also hires out the batteries, which is now a fast growing business. Two new limited companies are created, and the original limited company is put into solvent members’ voluntary liquidation. The liquidator then transfers the two different trades into the two new companies. Shares in both new companies are issued to the old shareholders in the same proportions.
Effectively, the shareholders have then done a swap of shares, with no money changing hands. This is very important step in order to stop a tax charge. The old company is then dissolved, leaving two new companies with very different trades and risk profiles.
It can be a time-consuming and expensive process, and may involve lawyers, especially if freehold and leasehold property, or bank debt, is involved.
2) A limited company is owned by two families of shareholders that have grown apart and have different needs in the future
Typically, one family wants to draw the maximum out of the business, while the other half want it left in the business to reinvest.
As in the last example, two new limited companies are formed. The old company is liquidated, and the assets transferred into the two new limited companies. Shares are issued in each of the new companies: one company’s shares to one family, and the other company’s shares to the other family.
The shareholders have in effect completed a share for share swap, which ensures that there is no tax charge on disposal. The old company is then dissolved.
3) A new holding company is created, so that shareholders sway their shares in the original company for new ones in a holding company
Once you have a group of companies, you can pay dividends between them, tax-free. In this case, for example, the subsidiary could pay dividends to the holding company over a period of time.
If the trade of the subsidiary has a higher risk profile, then it could continue to trade, but move the profits over time to the holding company by paying dividends. The shareholders take any money they need from the holding company.
The reason for doing this is that if the subsidiary then gets into financial trouble, it can be liquidated or financially restructured, so that the majority of assets are in a holding company and can’t be touched by creditors. There are various rules about under value transactions and preferences to be careful of, but over a long period of time, assets can be moved to safety.
I have seen a crane company use this structure to own the cranes of very high value in the holding company, but it is the subsidiary that trades and deals with the customers.
The professional tools you'll need
Section 110 schemes of arrangement take careful planning by professionals. To undertake this process, you will need a tax specialist, an insolvency practitioner and a lawyer, at the very least.
Careful consideration needs to be made for all the shareholder’s requirements (and these reorganisations require shareholder approval), as well as all the taxes involved such as income tax, capital gains tax, corporation tax and stamp duty on property transfers between companies.
About the author
David Kirk is a chartered accountant and licensed insolvency practitioner based in the South West. He has helped over 1,000 businesses resolve financial problems. Follow @kirksinsolvency or visit www.kirks.co.uk.