July 28th, 2011
Shares in a company represent ownership. When an individual buys shares in a company, they become one of the owners of the business. This entitles them to a share of the profits of the company – the dividends.
What are shares and why are they issued?
When an individual buys shares in your company, they become one of its owners.
Small companies issue shares in their company in return for a lump sum investment. This investment may either come from friends and family or, for businesses that are looking for capital to fund high growth, through formal equity funding finance.
These investors are willing to put up capital for a share in a growth business. The advantage of raising money in this way is that you don’t have to pay the money back or pay interest to the investors. Instead, shareholders are entitled to a share of the distributable profits of the company, known as dividends.
How are shares issued?
When you set up a company with share capital, you can decide on the level of share capital and the number of shares of a fixed nominal value.
A statement of capital and initial shareholdings must be delivered to Companies House as part of the incorporation of the company and this will set out:
the amount of share capital the company will have
the division of the share capital
The founders of the company must sign form IN01 and the memorandum of association and state the number of shares they want. These are then issued upon incorporation and are called subscriber shares.
Family or friends
You may choose to issue shares to family or friends in return for making investment in your business, rather than accepting the offer of a loan from them. That way you’re not obliged to make repayments.
It is important to formalise any agreement with family members or friends as this can help you avoid or resolve any disputes that may arise in future.
Employee share ownership schemes offer employees a stake in the business, encouraging loyalty and helping you to retain key staff.
They also provide an incentive or reward for performance and can help recruitment.
A company need not issue all its capital at once. Issued capital is the nominal – rather than actual – value of the part of the share capital that has been issued to shareholders.
For example, a company that issues 500 shares at £1 each has an issued share capital of £500.
A Private limited company only needs to issue one share of any value, but Public limited companies (plcs) must have at least £50,000 worth of issued share capital before they are allowed to trade. Initially they must satisfy this requirement by means of shares in sterling or in euro shares (and not by a combination of the two).
Further shares can be issued in the company by the directors, subject to the rules set out in the Articles of Association, but typically by being authorised to do so by ordinary resolution of the company’s existing members.
An exception to this is that the directors of a private company incorporated under the Companies Act 2006, which will only have one class of shares, do not need any prior authorisation from the company to allot shares.
The directors set the price of these shares.
Limited companies must notify Companies House of any new shares issued.
Types of shares
A company may have many different types of shares that come with different conditions and rights.
There are four main types of shares:
Ordinary shares are standard shares with no special rights or restrictions. They have the potential to give the highest financial gains, but also have the highest risk. Ordinary shareholders are the last to be paid if the company is wound up.
Preference shares typically carry a right that gives the holder preferential treatment when annual dividends are distributed to shareholders. Shares in this category receive a fixed dividend, which means that a shareholder would not benefit from an increase in the business’ profits. However, usually they have rights to their dividend ahead of ordinary shareholders if the business is in trouble. Also, where a business is wound up, they are likely to be repaid the par or nominal value of shares ahead of ordinary shareholders.
Cumulative preference shares give holders the right that, if a dividend cannot be paid one year, it will be carried forward to successive years. Dividends on cumulative preference shares must be paid, despite the earning levels of the business, provided the company has distributable profits.
Redeemable shares come with an agreement that the company can buy them back at a future date – this can be at a fixed date or at the choice of the business. A company cannot issue only redeemable shares.
Transfer of shares
In a private company, shares are usually transferred by private agreement between the seller and buyer, subject to the company’s rules and approval of the directors.
Certain taxes apply when you transfer or sell shares:
If you are transferring shares yourself using a paper stock transfer form Stamp Duty may be payable when the value is over certain limit
Any gains you have made on selling shares may be subject to Capital Gains Tax.
When a shareholder dies or becomes bankrupt, their shares and the rights associated with them must be given to a personal representative or executor.
Paying dividends and paying tax
A dividend is a part of the company’s profits that is given to shareholders.
Small companies often pay dividends after the annual accounts are prepared, or often where directors are also shareholders at regular times during the year.
The dividend is calculated per share, so the more shares you own, the more money you get.
Dividends attract income tax, but not National Insurance charges.
When paying dividends, the company must send a dividend voucher to the shareholder . This shows the amount of the dividend and the amount of tax credit. The tax credit indicates the amount of tax paid by the company on the shareholder’s behalf. Companies can pay dividends electronically if a shareholder agrees to it. Companies no longer need to send a dividend voucher in such cases
Dividends are paid after tax has been deducted at the basic rate. If you pay a higher rate of tax, you may be liable to pay additional tax on your dividend.
Making changes to share capital
Companies can alter their share capital through a number of routes.
Since 1 October 2008 private companies have been able to reduce share capital by means of a special resolution and a statement by the directors confirming the solvency of the company. The procedure is subject to any provision in the company’s articles prohibiting or restricting the reduction of capital. There is a fee of £10 for this procedure.
Issuing shares to a new shareholder
A company can issue shares to a new shareholder by authorising the directors to allot shares. The authority can be in the articles or given by an ordinary or elective resolution.
Allotment creates a right to be issued with the shares.
Changing the shares
A company can consolidate or subdivide its share capital if authorized to do so by the articles.
Consolidation is when the shares are put together and then divided into shares of larger amounts, e.g. 200 shares of £1 are consolidated to create 100 shares of £2.
Subdivision is when shares are divided into smaller amounts.
To consolidate or subdivide shares, a company must pass an ordinary resolution, then send the resolution and a completed form SH02 to Companies House within a month of the change.