ERSM30030 - Restricted Securities

Shares acquired between 26 October 1987 and 15 April 2003 inclusive

Before FA 1988 there was a special charge to tax on some restricted shares on the full increase in the value of the shares between the time of the acquisition and the disposal (or 7 years after acquisition if the shares were not disposed of). Because the whole increase in value was charged to tax, this was regarded (both within the Inland Revenue and by professional bodies) as unduly penal – see ERSM30020.

There was a review of the rules and a major change to the taxation of restricted shares was introduced by FA 1988, in the new rules introduced in sections 77 – 89.

These rules continue to apply to restricted shares acquired before 16 April 2003 but, as from 6 April 2003, they are now set out in Chapter 4 of ITEPA in ITEPA03/S449, ITEPA03/S450, ITEPA03/S451 and ITEPA03/S452 (as originally enacted).

In 1988 a distinction was drawn between a risk of forfeiture and other restrictions.

Shares with a risk of forfeiture were not regarded as acquired until the risk of forfeiture was lifted and no charge therefore arose on acquisition of these shares.

For other shares subject to a restriction, the charge on acquisition was based on the restricted value of the share.

Example 1 (employee not resident & ordinarily resident - non-Case I employee)

Martin New is given shares with an unrestricted value of £1,000, which, because they cannot be sold for three years, only have an actual market value of £850. The employee is taxed on the market value of £850.

Employees who were not within Case I of Schedule E (see ERSM110080 and SE40101) did not have any further liability to tax.

An employee who is both resident and ordinarily resident (Case I of Schedule E) faces a possible further charge under FA88/S78. Under section 78 there is a charge to tax on the increase in the market value of the shares that arose from the lifting of the restriction.

Example 2 (employee resident & ordinarily resident - Case I employee)

Susan Fletcher is given shares with an unrestricted value of £1,000, which, because they cannot be sold for three years, only have an actual market value of £850. The employee is taxed at acquisition on the market value of £850. If the employee is then told, shortly after the acquisition that the restriction on sale is lifted the shares will increase in value from £850 to £1000. This increase of £150 will be charged under section 78.

Expiry of time-related restrictions

The charge under Section 78, which became ITEPA03/S451 (1) as originally enacted, was based on the increase in the value of the shares, when comparing the market value immediately before the lifting of the restriction with the market value immediately after. So it did not address properly time-related restrictions, which wasted away over time so that their value immediately before lifting was the same as that immediately afterwards, giving a charge of nil.