If you run a family company, you may have wondered whether there is a more tax-efficient way to share profits between family members.
One option that is often discussed is the use of alphabet shares.
When used correctly, alphabet shares can provide greater flexibility over how dividends are paid. However, they also come with important tax and legal considerations that business owners need to understand.
What are alphabet shares?
Alphabet shares are different classes of shares within the same company.
Typically, these are labelled as:
- A Ordinary Shares
- B Ordinary Shares
- C Ordinary Shares
and so on.
The key advantage is that each class can have different dividend rights.
This means a company may be able to pay dividends to one class of shareholder without paying the same dividend to every shareholder.
For family companies where shareholders pay tax at different rates, this flexibility can be valuable.
Why are alphabet shares used?
Under normal circumstances, dividends must be paid equally to shareholders holding the same class of shares.
Alphabet shares allow directors to tailor dividend payments to different groups of shareholders.
For example, one shareholder may be a higher-rate taxpayer, while another family member may have little or no taxable income.
By using separate share classes, it may be possible to distribute profits more tax efficiently across the family.
It’s not just about dividends
Alphabet shares can also carry different rights.
These may include:
- Different voting rights
- Rights to capital
- Redeemable share rights
- Restrictions on transfers
However, care is needed.
If shares are created solely to receive dividends, HMRC may challenge the arrangement.
Understanding the settlements legislation
One of the main areas of concern is the settlements legislation.
These rules are designed to prevent people from diverting income to another person purely to achieve a tax advantage while still retaining control over the underlying asset.
For alphabet shares to be effective, shareholders should generally have genuine ownership of their shares.
This means having real rights attached to those shares, such as rights to capital, voting rights and future growth.
If HMRC believes the arrangement simply redirects income without transferring genuine ownership, the dividends could potentially be taxed on the original shareholder instead.
HMRC is paying closer attention
In recent years, HMRC has gained access to more information through enhanced digital reporting and data matching.
In addition, from 6 April 2025, directors of close companies must provide additional information on their Self Assessment tax returns.
This includes:
- The name of the close company
- The company’s registered number
- Dividends received from the company
- The percentage shareholding owned
The aim is to help HMRC identify situations where dividend payments appear inconsistent with share ownership records.
As a result, it is more important than ever that dividend arrangements are properly structured and documented.
Could a Family Investment Company be an alternative?
For some families, a Family Investment Company (FIC) may be worth considering.
A FIC is a private company used to hold and manage family wealth.
Often, parents retain control through voting shares while children or grandchildren hold separate share classes that may benefit from future growth and dividends.
While FICs can offer planning opportunities, they are complex structures and require careful professional advice to ensure they achieve the desired outcome.
Common mistakes to avoid
If you’re considering alphabet shares, there are several potential pitfalls.
For example:
- Creating new share classes immediately before declaring a dividend
- Introducing alphabet shares after significant profits have built up
- Paying dividends into accounts that do not belong to the shareholder receiving the dividend
- Failing to document dividend decisions correctly
These issues may increase the likelihood of HMRC scrutiny.
Don’t overlook the paperwork
Good documentation is essential.
Directors should ensure:
- The company’s articles of association allow alphabet shares
- Share rights are properly documented
- Board minutes are prepared
- Dividend declarations are correctly recorded
- Shareholder agreements are up to date
Keeping accurate records helps demonstrate that the arrangements are genuine and commercially robust.
Are alphabet shares right for your business?
Alphabet shares can be a useful tool for family companies looking to create flexibility around dividend planning.
However, they are not a one-size-fits-all solution.
The tax rules are complex, and HMRC is paying increasing attention to how dividends are distributed within family businesses.
If you’re considering alphabet shares, Family Investment Companies or other profit extraction strategies, contact Jon or the team at Jon Davies Accountants.
We’ll help you understand the options available and ensure any planning is structured correctly from the outset.
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Any questions?
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