Help with issuing of equity in return for investment

[duncanBath]

Good Evening!!

I am setting up a small business, which will be a private limited company. I want to issue shares in return for investment, and need some guidance.

This may sound a little suss, but I assure you it absolutely isn't, couldn't be more ethical in fact - put my naivety down to inexperience and I look forward to your guidance!

The scenario is as follows: The company, valued at £100K (no comment) requires an investment of £27K. Would I be right in assuming that therefore, the company share capital should be issued with companies house as 100,000 ordinary £1 shares, and than 27,000 shares be distributed amongst those that are investing the £27K according to the level of their investment, and the remaining 73,000 shares remain unallocated? How do you take into account equity given to someone (the person whose start-up this is) who may not be investing?

One of the investors is a family member wishing to invest a hefty sum. The idea is that they will invest £x on my behalf and will want to put the percentage equity in my name. Similarly they will invest £y on the behalf of someone else, and put the percentage equity in their name. Finally they will invest the remaining £z in their own name, with the percentage equity relating to that investment in their own name.
Is this legal? My thinking is that it is, as each of the 3 people will be liable for tax on dividends paid to them based on the equity they hold in the business. Is this correct? Is the family member liable for tax on the investment at the start of the process? I would think not as otherwise tax would be paid twice?

Final question, is the company liable for tax on the profits before dividends are paid out to each of the directors, or will it be taxed on the remaining profits once dividends are paid out?

Many thanks for your help with this, what a legal/financial minefield this is!

Duncan

 

[David Griffiths]

This is almost certainly far too complicated to be dealt with by casual advice on a forum. I'd probably have more questions than answers because it's necessary to understand what is going on, and what you have in mind.

For a start, if you are setting up the business, how is it worth £100K already? It then goes on to find out what degree of voting control you want each of the investors to have.

You'd also need to have a shareholders agreement drawn up between all of the parties, to govern what happens to the shares in the event of a dispute, if somebody wants to leave, or if one or more investors/directors/shareholders are'nt pulling their weight. I can't imagine that any experienced investor would want to put money in without such an agreement, and a clear path to getting the money back out again. Among other things, the agreement would lay down ground rules for how much the directors could pay themselves - otherwise they could take all of the profits as salaries and leave nothing for return on the investment.

It's not necessary for all of the investors to have the same class of shares, or fall all people buying the same class of shares to pay the same price. For example, it's quite common for the founder of the business (you) to have a large chunk of the equity at par, and the other investors to buy shares at a premium - e.g. to pay £10 for a £1 share, for example.

I can't see any way that you could get yourself set up properly by asking questions on a forum. It's probably a matter for a solicitor rather than an accountant, because of the need for the shareholders agreement - and I do mean need. If you think that you can get by without one, then a quick review of this forum will turn up no end of disputes that can't be settled because there is no agreement in place. Result is misery. If you won't spend money on an agreement, I've suggested in the past that you should spend it on having your head examined. Not joking, either!

Two questions that can be answered. The investors will not be liable for tax on the initial investment. And the company will pay tax on the profits calculated before the dividends are paid. The investors receive the dividends with no liability to basic rate tax, but if they are higher rate taxpayers, then they will have extra to pay.

 

[duncanBath]

David,

Thank you for your input - never did I make any suggestion that I would not be consulting with a solicitor AND an accountant regarding these and other business matters. I may be new to the game, but I am not a fool.
I know that there are a lot of people on here with experience, who may not have law or accountancy degrees, but who may be going through a similar sort of thing than me, and who may be able to tell me what worked for them. I am certainly not trying to scrimp on legal fees by getting all my answers on a forum, simply appealing to like-minded people for their thoughts.

That said, I appreciate yours and have learnt something alreaday as I would have thought the tax would be paid by shareholder on their dividends, not by the company on profits before dividend payout - so thank you.

Any more thoughts, comments or input appreciated...

Best regards,
Duncan

 

[David Griffiths]

Sorry, Duncan, I know that you didn't say that you weren't going to take professional advice, but on the other hand you didn't say that you were!

What I was trying to say is that your circumstances are likely to be unique, and there are so many factors to take into account that it's not likely that you'll get relevant advice from a forum. General comments, yes, but no more.

As I've said, you need to have in mind what percentage of equity each party gets. If it's "your" business, then I'd expect you to have 50% plus, and to pay £1 per share for those. I don't know the numbers but you might put in perhaps £12k for those shares, for say 60% of the equity.

If you get those at £1 each, then the 40% balance is going to be 8,000 shares, but you'll charge £27k in total - just over £3 per share.

The numbers work at any level - if you put in £1,200, then the 800 other shares still go for £27,000 - £30+ each.

In other words, it's a question of finding where you want to go, and then working out how best to get there!

 

[yorkshirejames]

One of the investors is a family member wishing to invest a hefty sum. The idea is that they will invest £x on my behalf and will want to put the percentage equity in my name. Similarly they will invest £y on the behalf of someone else, and put the percentage equity in their name. Finally they will invest the remaining £z in their own name, with the percentage equity relating to that investment in their own name.
Is this legal? My thinking is that it is, as each of the 3 people will be liable for tax on dividends paid to them based on the equity they hold in the business. Is this correct?

Are persons x and y relatives of the investor? On the face of it I can't see anything wrong with this, if the amount is substantial (the initial outlay, x+y+z) I would get an accountant to help you ensure that this is done in the most tax-efficient way possible.

 

[duncanBath]

yorkshirejames, thanks for your comment. Yes, they are relatives, and it is quite a substantial amount.

I have an appointment with an accountant tomorrow!

Thanks,
Duncan