At the end of last year, we reported on the proposed changes to the conditions which must be satisfied for entrepreneurs’ relief (ER) to be available on a disposal of shares and the potential pitfalls with the new test.

On 21 December 2018, HMRC released a revised draft of the legislation, taking into account the numerous concerns which had been raised.  In this update, we consider whether the new draft gives adequate protection to shareholders who hold special classes of shares.

Summary of initial concerns

As previously reported, the initial draft of the legislation extended the 5% qualifying requirements beyond just voting rights and ordinary share capital, and introduced a 5% requirement for both distributable profits and rights to net assets.

The test provoked immediate concerns that holders of alphabet shares (and other special classes of shares) may cease to be entitled to ER on a disposal.  In particular, it was noted that many share structures which allow for differential dividends could not guarantee that shares had rights for a definitive entitlement to 5% of the company’s distributable profits.

HMRC’s new proposal – the “alternative” test

HMRC has listened to the concerns raised and has produced a revised draft of the legislation which seeks to rectify the issue. The revised legislation retains the initial test for 5% profit and asset entitlement, however it also proposes a new “alternative” test.

The alternative test requires the shareholder to be entitled to at least 5% of the proceeds in the event of a disposal of the whole of the company’s ordinary share capital. 

The shareholder must also still satisfy the 5% voting rights and ordinary share capital conditions.  However, provided that this “alternative” test is satisfied and the shareholder can demonstrate that the conditions have been met for the 24 month period prior to the sale, the shareholder will not have to demonstrate that it also had an entitlement to 5% of the distributable profits and net assets.


The new alternative test is a welcome revision to the draft legislation and does go some way to address the concerns around special classes of shares and the availability of ER on their disposal.  On the face of it, special rights concerning dividends will not preclude the availability of ER to shareholders, provided the “alternative” test can be satisfied.

However, the new alternative test does also give rise to a number of additional queries, and HMRC guidance will be needed to properly apply to the test.  This is particularly the case with more unusual share structures, for example on ratchet/growth shares which may be entitled to 5% of the proceeds at the date of a disposal, but which may not be able to demonstrate an entitlement to 5% of the proceeds during the whole 24 month qualifying period.

It should also be stressed that the legislation remains in draft format, and it is possible that HMRC may make further amendments.  Once the legislation is in final form, we would recommend to take appropriate advice to ensure your share structure does not preclude you from obtaining ER.

If you wish to discuss any of the issues concerning the availability of ER, please contact our expert Corporate Commercial team.