Out of Profits, Out of Capital, Out of Fresh Issue: How UK Private Companies Fund Their Share Buybacks, and the SH03 Trail That Hides It

British company law spent most of the twentieth century forbidding what its American cousin allowed without ceremony. From the House of Lords in Trevor v Whitworth (1887) onwards, the rule was that a limited company could not, save in narrow exceptions, buy back its own shares. The Companies Act 1981 finally lifted the ban, and the modern regime — Chapter 4 of Part 18 of the Companies Act 2006, sections 690 to 708 — has now had over four decades to settle. It is the route most departing EMI-option holders, retiring shareholders in owner-managed businesses and minority directors actually exit through. Yet the Companies House filing trail it leaves is one of the most under-analysed in the register: usually a single SH03 return, sometimes an SH06 cancellation, occasionally a London Gazette notice for the out-of-capital cases. None of those filings tell the reader where the cash actually came from. This piece sets out the three statutory funding routes, the de minimis short cut added in 2013, the filing trail each one leaves, and the s1033 CTA 2010 conditions that decide whether the leaving shareholder pays capital gains tax or income tax on the proceeds.

Section 690: the permission, and what it doesn't say

Section 690(1) gives a limited company the power to purchase its own shares — including redeemable shares — subject to anything in the articles to the contrary. That permission is unconditional only on its face. Three layers of statutory machinery sit on top of it. First, the buyback has to be either an off-market purchase under section 693, authorised by a contract approved in advance by ordinary resolution for a private company, or a market purchase, authorised by ordinary resolution naming a price range and time limit. Almost every private-company buyback is off-market, and the rest of this piece assumes that route. Second, the consideration has to come from one of the statutorily-permitted sources, and section 692 gives only three. Third, the bought-back shares are either cancelled under sections 706 and 724 or, for qualifying private companies, held in treasury — and the filing trail differs accordingly. Get any one of these three layers wrong and the purchase is void under section 658, with criminal liability attaching to every officer in default.

The three funding routes

Section 692(2) is short. The consideration for an off-market purchase by a private company may come from (a) distributable profits, (b) the proceeds of a fresh issue of shares made for the purpose, or (c) for a private company only, capital — but only by following Chapter 5 of Part 18, or the simplified procedure inserted into the Act in 2013. Each route imposes a different procedural cost on the company and a different evidentiary burden on the directors.

Route 1: out of distributable profits — s692(2)(a)

The default. Distributable profits, in the strict section 830 sense — accumulated realised profits less accumulated realised losses, as shown by the company's last filed annual accounts under section 836, or by properly drawn interim accounts where the last filed numbers will not support the payment. The company has to actually have the reserves; the directors carry the section 830 line of liability if they do not, freshly reframed in 2026 by the Supreme Court's reasoning in Sequana. This route requires an ordinary resolution approving the contract or terms of purchase. Within 28 days of completion the company files form SH03 — Return of purchase of own shares — at Companies House. If the shares are then cancelled (the usual outcome for private companies that have not adopted treasury shares), SH06 follows within the same window.

Route 2: out of fresh-issue proceeds — s692(2)(b)

The company allots new shares specifically to fund the buyback and uses the cash to pay the departing holder. Useful where distributable reserves are thin but appetite from incoming shareholders is strong — the second-generation MBO scenario, where new equity replaces an exiting founder's holdings. The buyback can be funded out of those proceeds even though, strictly, the company has no distributable profits to draw on. The procedural overhead is the SH01 allotment return for the new shares, then SH03 for the buyback, both within 28 days, plus the auditor's work that sits behind whichever set of accounts the company relies on. Practitioners usually prefer this route over the Chapter 5 procedure because there is no Gazette notice, no creditor objection window, and no five-week wait between the resolution and the payment.

Route 3: out of capital — Chapter 5, ss 709-723

The most procedural, used only when the first two routes will not stretch. Private companies only. The directors must make a solvency statement covering the twelve months after the payment date under section 714, supported by an auditor's report confirming that the proposed payment is properly arrived at under section 714(6). A special resolution must be passed within one week of the solvency statement under section 716, notice of the proposed payment must appear in the London Gazette and either in a national newspaper or as written notice to every creditor under section 719, and the company must then wait at least five weeks — but no more than seven — after the resolution before making the payment under section 723. During the five-week window, any creditor or non-consenting shareholder can apply to court under section 721 to cancel the resolution. The solvency statement, special resolution and a fresh statement of capital all reach Companies House within fifteen days of the resolution; the SH03 still goes in within 28 days of payment.

Route 3a: the £15,000 / 5% short cut — s692(1ZA)

Largely unsung, but used more than the full Chapter 5 procedure for very small private companies. The Companies Act 2006 (Amendment of Part 18) Regulations 2013 inserted section 692(1ZA), which lets a private company fund a buyback out of capital — without the Chapter 5 procedure — up to the lower of £15,000 or 5% of the aggregate nominal value of its fully paid share capital at the start of the financial year. No solvency statement, no auditor's report, no Gazette notice, no five-week wait. An ordinary resolution and articles that permit it are all that is required. The trade-off is the cap: useful for unwinding a single departing employee's EMI-option holdings, useless for any meaningful founder exit. Each financial year the £15,000 / 5% allowance resets.

The four routes side by side

In every case SH03 is filed within 28 days; SH06 follows where the shares are cancelled, which on owner-managed company buybacks is almost always.

Cancel, or hold in treasury?

Treasury shares were extended to all classes of shares — not just listed equity — by the same 2013 regulations that introduced the de minimis route. A private company that has bought back shares out of distributable profits may now hold them in treasury under section 724, reissue them later for cash or to satisfy an employee share scheme, or cancel them. The SH03 itself indicates which course has been chosen; cancellation triggers SH06, treasury shares trigger their own short-form notification within 28 days. The aggregate nominal value of treasury shares held cannot exceed 10% of the relevant class. In practice almost all OMB buybacks still cancel — partly because the FRS 102 accounting for treasury shares is more involved, partly because the directors of a four-shareholder company rarely want a fifth share line sitting on the register doing nothing.

The tax fork: capital or income?

Companies House law is half the picture. The other half is the income-versus-capital question, governed by Chapter 3 of Part 23 of CTA 2010. The default position is that any consideration paid by a UK-resident close company for its own shares, to the extent it exceeds the capital originally subscribed, is treated as a distribution under section 1000 — taxed in the seller's hands as a dividend at the appropriate dividend rate. Section 1033 CTA 2010 carves out an exception: where five conditions are satisfied, the consideration is treated as capital and the seller pays CGT instead. The five, in shorthand:

1. The purchase is wholly or mainly for the benefit of the trade carried on by the company or any 51% subsidiary — the so-called "trade benefit" test.
2. The vendor is resident in the United Kingdom for the tax year of disposal.
3. The shares have been owned for at least five years, reduced to three years where acquired on death.
4. The vendor's interest in the company is substantially reduced — at least a 25% reduction in the proportionate interest, and a post-purchase holding of no more than 30%.
5. The vendor and connected persons must not, after the purchase, together hold more than 30% of the company's issued share capital, loan capital and voting power.

Advance clearance is available from HMRC under section 1044 and is, in practice, sought on every transaction of any size. The trade-benefit test is the slipperiest of the five — HMRC's published view in Statement of Practice 2/82, still in force, is that resolving a dispute that is impairing the trade, or financing a departing founder's exit so that a new strategic direction can be pursued, will normally qualify. Buying out a passive investor whose holding has had no impact on trade direction, by contrast, will not. With the lifetime BADR allowance now reduced and the BADR rate stepping up under the post-2024 Finance Act timetable, the income-versus-capital margin is narrower than it was for higher-rate sellers — but still material enough to justify clearance on any purchase above the low five figures.

What the filing data does not show

Three things the SH03 return does not record. First, the funding source: there is no machine-readable field marking the return as a profits, fresh-issue, Chapter 5 or de minimis buyback. Second, the consideration paid: SH03 records the number and nominal value of the shares purchased, not the price the company actually paid. Third, whether the seller obtained section 1033 capital treatment: the tax position never reaches Companies House at all. For the analyst, the only public traces of a payment out of capital are the special resolution, the statement of capital and the London Gazette notice — and many practitioners now prefer the de minimis route precisely because it leaves none of those. The result is a register that records the headline event but not the structural choice behind it. For the corporate transparency agenda — which has otherwise been the dominant theme of ECCTA and the post-2024 reforms — this is one of the quieter blind spots in Part 18 of the Act.

The bottom line

The choice of funding route for a private-company buyback is rarely a finely-tuned optimisation. It is almost always determined by two facts: whether the company has the distributable reserves, and whether the consideration fits inside the £15,000 / 5% de minimis cap. The Chapter 5 procedure — five-week creditor window, Gazette notice, special resolution, auditor's report — is reserved for the cases where neither escape hatch is available, and in any given quarter Companies House sees fewer of those than it sees of the de minimis short cut. The fresh-issue route, although elegant, requires incoming capital that most retiring-founder transactions cannot summon at the moment they need it. That leaves the great majority of UK private-company buybacks running through one of two pipelines: distributable profits, well-advised and clearance-supported, or the £15,000 de minimis, modest in scale but blissfully short of paperwork. The filing trail at Companies House — usually nothing more than a single SH03 followed within days by an SH06 — is the record both routes produce in common.