HMRC have launched a consultation on proposals to modernise the UK’s company distribution rules, which have remained largely unchanged for decades. Open until 14th September 2026, the consultation, according to HMRC, seeks to update the relevant rules to better reflect how businesses operate today.
For owner-managed businesses, the outcome could have a direct impact on important decisions around shareholder exits, succession planning, business reorganisations and demergers.
Why is HMRC reviewing company distributions framework?
It is HMRC’s view that the current rules can produce different tax outcomes for transactions that are commercially similar, depending on their legal form. HMRC’s stated aim is to create a clearer distinction between genuine commercial activity and arrangements that are primarily designed to secure a more favourable tax treatment.
It should however be noted that HMRC state legitimate commercial transactions should not be unduly restricted, which will be an important consideration as the proposals develop through a consultation process with interested parties.
How the consultation could affect company demergers
Demergers are a key part of the consultation. Companies may use a demerger for several commercial reasons, including separating different activities (often trading and investment activities), managing risk, supporting succession planning, resolving shareholder disputes or preparing for a sale or investment.
At present, these objectives are often achieved through capital reduction demergers. This flexible, non-statutory route has become widely used because the existing statutory regime is not always available for use, due to the extensive conditions which need to be met. The requirements to be a trading company or group and the restriction on the ability to sell post-demerger are the two most common reasons the statutory route cannot be used.
HMRC have acknowledged that this position is not ideal and is considering whether a clearer, more straightforward route should be available.
What is the difference between statutory demergers and capital reduction demergers?
In the UK, there are three principal methods available to separate a corporate group by way of a demerger. These are the statutory route, the capital reduction route and the liquidation route. The liquidation route is now rarely used in practice.
A statutory demerger is a well-recognised method, often used to transfer part of a trading business to a new company under the same ownership at a shareholder level as the previous one. If structured correctly, it can be done without incurring any tax charges and there is no need to liquidate the existing company.
A capital reduction demerger involves reducing the share capital of a company (usually a newly inserted holding company) and using that reduction to transfer shares in an existing company to a new company owned by some or all of the shareholders of the holding company. It also offers a flexible structure with no need to liquidate the business and is suitable for more complex shareholder arrangements or situations when the statutory route is unavailable.
Proposed restrictions on capital reduction and statutory demergers
The proposed changes would essentially see capital reduction demergers cease to be available for use. HMRC have suggested changes to the statutory route that would make it more readily available to certain companies, however, there are still key restrictions on an onward sale of either of the demerged groups that would likely heavily curtail the usefulness of the statutory route.
Holding company structures and capital extraction
The consultation also looks at arrangements that may allow shareholders to extract value as capital rather than income through the use of holding company structures. Although this type of planning may not be common in practice, HMRC believe there are gaps in the existing rules, including the Transactions in Securities provisions, that may need to be updated.
This is arguably a questionable position for HMRC to take as the example they give is rarely undertaken in practice due to their ability to counteract such planning using existing anti-avoidance legislation.
Proposed changes to share buyback tax treatment
Significant changes are also being considered for the tax treatment of share buybacks. HMRC state that the focus is on ensuring that favourable capital treatment applies where there is a genuine shareholder exit.
Some of the proposed changes would increase the flexibility of share buybacks, in particular allowing buybacks to take place in tranches over two years and still benefit from capital treatment. Conversely, other changes such as the requirement that the exiting shareholder must have been an employee of the company for the two years prior to the buyback, would significantly curtail the commercial use of share buybacks.
Overseas companies, shareholder loans and UK tax rules
The consultation also considers the treatment of overseas companies, particularly where the current rules may allow more favourable tax outcomes than equivalent UK arrangements.
Areas under review include distributions from non-UK companies and loans to shareholders from overseas entities. The aim is to reduce any advantage from using offshore structures and align outcomes more closely with UK rules.
What do the proposed distribution changes mean for owner-managed businesses?
It is important to stress that these proposals are only currently being consulted on by HMRC. Whilst some appear to be reasonable and helpful changes, others are likely to adversely impact legitimate commercial activity.
The consultation will close on 14th September 2026, with HMRC publishing their responses shortly afterwards.
Although the proposals are not yet law, they provide an indication of HMRC’s current thinking. It may be wise for companies to begin reviewing any plans involving demergers, shareholder exits, share buybacks and group restructures to ensure that any risks from the rules potentially changing are discussed and mitigated where possible.
If your business is considering a demerger, share buyback, shareholder exit or wider group restructure, our tax specialists can help you assess your options and prepare for the potential changes ahead. Get in touch with our team today to discuss how the consultation could affect your business and the steps you may need to take.
