Modernising company distributions: Significant reform ahead, but no immediate change

• 28 October 2026
• Uncategorized

Following the Budget 2026 announcement, there is no immediate change to the taxation of distributions by companies to shareholders. The Government’s proposed reforms are expected to take effect from April 2028, following a technical consultation in 2027 on draft legislation that has yet to be published. 

This is a complex area of tax law and the eventual changes could have significant implications for business reorganisations, inter-generational transfers and fund managers or management teams that co-invest alongside external investors. 

The Government consulted over the summer of 2026, taking soundings from taxpayers, businesses and their advisers. Today’s framework factsheet gives the first indication of the direction in which the Government intends to proceed. 

In broad terms, the proposals contemplate: 

1. Taxing profits extracted from companies as income where appropriate.

2. Bringing payments and loans from overseas companies more closely into line with the tax treatment of equivalent payments and loans from UK companies.

3. Reforming the purchase of own shares (POS), demerger and other corporate restructuring rules. 

The central issue: income or capital? 

The reforms have to balance competing objectives. 

The Government wants greater fairness and consistency in the tax system, but it also needs to ensure that capital continues to flow into UK businesses and that business owners can reorganise, attract investment and transfer ownership without unnecessary cost and complexity. 

One issue highlighted by the Government is the difference between the taxation of income and capital receipts. A distribution can currently be subject to income tax at rates of up to 39.35%, whereas a disposal giving rise to a capital gain may be taxed at 24%, in each case assuming an additional-rate taxpayer and ignoring any available reliefs. 

The Government is concerned that careful structuring can, in some circumstances, influence which of those regimes applies even where it considers the underlying economic outcome to be similar. 

Any reform therefore needs to distinguish effectively between genuine commercial transactions and reorganisations and arrangements whose principal purpose is the extraction of accumulated corporate profits at capital gains tax rates. 

Importantly, the framework recognises the difficulties this could create for businesses reorganising for genuine commercial reasons and for owners seeking to transfer businesses, including to the next generation of a family. 

Demergers and commercial reorganisations 

Businesses have increasingly used capital reduction demergers as a tax-efficient means of separating businesses and assets. 

One reason is that reorganisations under section 110 of the Insolvency Act 1986 can be procedurally complex and time-consuming, potentially delaying subsequent transactions with investors. Statutory demergers can, meanwhile, be too restrictive for some commercial situations. 

This matters particularly where an investor wants exposure to only one part of a wider business. 

The framework factsheet acknowledges that the demerger and reorganisation rules will need to be considered as part of the reforms so that genuine corporate reorganisations and other commercial transactions remain properly supported. 

That is important in the context of both domestic and cross-border investment. In our experience, external investors, particularly those investing across jurisdictions, have limited appetite for lengthy procedural requirements. The UK’s tax rules therefore need to strike a balance between preventing inappropriate capital extraction and ensuring that unnecessary tax and procedural barriers do not make UK businesses less attractive to investment. 

Purchase of own shares 

The purchase of own shares rules are another important part of the proposed reforms. 

Subject to detailed statutory conditions, the existing rules can allow consideration received by a departing shareholder to be treated as a capital rather than an income receipt. 

Those rules fulfil an important commercial function. Among other things, they can facilitate succession in trading businesses following the death or retirement of a shareholder, or allow shareholders whose commercial objectives have diverged to separate without requiring the remaining shareholders to find an outside purchaser for part of the business. 

The Government has listened to responses to the 2026 consultation. Based on the framework announced today, however, it appears that the new regime is likely to impose more prescriptive conditions on capital treatment. 

The proposals indicate that: 

• A departing shareholder would need to have held at least 5% of the company’s equity for a minimum of two years before departure and to have worked for the company throughout that period. 

• The shareholder would generally need to dispose of their entire shareholding and relinquish any directorships on departure, removing the ability to retain a small or sentimental shareholding. 

• Where a company does not have sufficient distributable reserves to complete the acquisition immediately, a buyback could take place in tranches, provided that the shareholder exits completely within two years. 

• The company would be required to take reasonable steps to ensure that the consideration does not exceed market value. 

• Where the departing shareholder retains family connections with the remaining shareholders or directors, the relevant holding and working periods would be extended to five years, aimed at preventing family members who are not meaningfully working in the business from being used as a means of extracting corporate capital. 

• If a shareholder who has obtained capital treatment subsequently becomes a director or shareholder again within five years, the relief could be withdrawn, with the original distribution becoming subject to income tax. 

There would, however, be protection where a former shareholder unexpectedly reacquires shares by inheritance, provided reasonable steps are taken to dispose of those shares as soon as practicable. 

What happens next? 

There is therefore no need for an immediate change of approach, but businesses contemplating succession, demergers, shareholder exits or other reorganisations should follow the development of the proposals carefully. 

Much will depend on the detail of the draft legislation. In particular, it will be important to see how the Government distinguishes between profit extraction and transactions undertaken for genuine commercial, succession or investment reasons. 

The draft legislation and the accompanying technical consultation in 2027 will therefore be keenly anticipated. 

If you would like to be involved in our response to the Government’s consultation, please contact a member of our team.