While HMRC’s consultation on modernising the distributions rules looks only at income tax (and not corporation tax) treatment, this post focuses on the elements that apply specifically to close companies (many of the other proposals will affect individual shareholders in any company).

For close companies, the consultation proposes reforms in three main areas: the transactions in securities (TIS) anti-avoidance provisions, the loans to participators regime, and the purchase of own shares relief.

What Is a Close Company?

A close company is, broadly, a company that is controlled by five or fewer "participators," or by any number of participators who are also directors. A company is also close if more than half its assets would be distributed to five or fewer participators on a winding up. 

The definition of "participator" is wide: it means any person having a share or interest in the capital or income of the company. When counting whether a company is controlled by five or fewer participators, you must also aggregate a participator's shares with those held by their "associates", which captures relatives, business partners in any partnership, and the trustees of certain settlements.

The practical result is that many family businesses and owner-managed companies will be close. But private equity-backed businesses are frequently caught too. This is because private equity funds are typically structured as limited partnerships, and the association rules attribute the rights of each partner to all others in the partnership. That means a fund with numerous commercially unconnected investors can still be treated as a single participator, making the portfolio company "close" regardless of how widely the economic interest is actually held. 

The government confirm in the consultation that they want to ensure that ‘commercial activity is not adversely affected and wider impacts on growth and investment are fully considered’. This needs to extend to considering how the proposals fit with the application of the close company rules to private-equity backed businesses, and any modifications that may be required as a result.  

Time for an Overhaul?

Targeted amendments have been made to the close company rules since their inception. For example, the 2013 extension of the loans to participators regime to capture indirect arrangements and "bed and breakfasting" of temporary repayments, and new self-assessment disclosure requirements from 2025/26 requiring directors to report whether their company is close. 

Earlier this year, HMRC published a separate consultation, Reporting Company Payments to Participators, proposing mandatory reporting of a much wider range of transactions between close companies and their participators, driven by the £14.7 billion small business corporation tax gap. 

The current consultation represents a further step in what is clearly a sustained focus on close companies, reflecting a continuing concern that this remains an area open to manipulation.

The Consultation Proposals

Transactions in Securities

The consultation proposes a potentially far-reaching reform of the TIS rules. These rules are designed to counter the manipulation of share capital to secure a tax advantage, by recharacterising what would otherwise be a capital receipt as income. 

The government considers the current regime to be outdated and difficult to apply, and proposes replacing it with a more principles-based approach, designed to act as a backstop where other provisions are circumvented.

At this stage, however, the government haven’t provided any detail on the proposed replacement, or amended, rules, and meaningful analysis on how far reaching this may be will clearly depend on such detail.

Loans to Participators

Transactions with non-resident companies that would otherwise be close 

The consultation proposes extending the loans to participators regime to non-UK resident companies, as part of the wider reform of the tax treatment of distributions from such companies.

Because non-UK companies are outside the charge to UK corporation tax, any new charge would fall on the individual borrower through self-assessment. The government acknowledges that the breadth of the loans to participators and close company rules could catch commercial lending which may not be envisaged in a parallel UK resident instance.

The consultation therefore seeks views on whether to: (a) broaden the existing ordinary-course-of-business exclusion; or (b) limit the charge to participators with a material interest. The consultation does note here that there could be a specific exclusion when assessing control for associates who are partners in a partnership. This is particularly relevant for private equity-backed structures, and it is helpful that the government is acknowledging the potentially broad implications of this proposal. 

Aligning the distributions code and loans to participator rules 

Where a distribution is found to be unlawful, triggering an obligation for the recipient shareholder to repay it to the company, there can be uncertainty about whether that payment is a distribution (taxed on the shareholder as income) or a loan to participator (which gives rise to a section 455 charge taxed on the company). It also creates scope for mismatches if HMRC enquires into only one side of the arrangement and time limits expire.

To resolve this, the consultation suggests a number of options: (a) a priority rule to establish which charge takes precedence; (b) legislating for HMRC's current discretionary practice for inadvertent distributions (CTM15295) which allows for the distribution to be reversed in certain circumstances (but notably wouldn’t address intentional extractions which were later found to be improperly made); and (c) enabling income tax on an extraction of value to be set off against income tax liabilities arising from rectifying the position, preventing double taxation.

Purchase of Own Shares

The purchase of own shares (POS) relief allows a close company to buy back shares from a departing shareholder with the payment taxed as capital rather than as a distribution, provided certain conditions are met.

The current regime includes a ‘benefit of a trade’ condition, under which the company must be able to satisfy HMRC that the purchase is made wholly or mainly for the benefit of its trade, or that of a qualifying subsidiary. Replacing that test with more mechanical requirements (which is the proposal in the consultation) may improve certainty, but may also reduce flexibility in commercial exit scenarios.

Looking Ahead

We are obviously only at consultation stage but a number of key questions already emerge: what will a "principles-based" TIS regime actually look like? How will the non-UK loans charge avoid catching commercial lending? Will the mechanical POS conditions work for the variety of fact patterns that arise in practice? Are there any unintended consequences here for private-equity backed businesses which fall within the close company regime? Much will depend on how these proposals are developed in time. 

See our Distributions Consultation Series 2026  for posts looking at other aspects of the consultation.