Redeemable shares

Redeemable shares are shares issued on terms that the company will, or may, buy them back later at the option of the company or the holder. They are governed by Chapter 3 of Part 18 of the Companies Act 2006 (sections 684 to 689): the terms must be fixed before the shares are allotted, the shares must be fully paid when redeemed, and the redemption must be funded from distributable profits, a fresh issue of shares or, for a private company only, a formal payment out of capital. Redeemed shares are cancelled and the company has one month to file form SH02.

Why issue redeemable shares rather than rely on a buyback?

A buyback under Chapter 4 of Part 18 needs a contract approved by the members at the time of purchase (see company share buybacks). With redeemable shares the exit is built in from day one, so no separate purchase contract or approval is needed when the redemption date arrives. That makes them useful for:

• investors who want a defined exit, often as redeemable preference shares;
• a retiring owner who leaves value in the company and is repaid in instalments;
• employee or family shares that the company wants to be able to recover;
• bridging finance where loan finance is unavailable or unattractive.

The trade off is accounting and tax complexity. Under FRS 102 a share with a mandatory redemption is often a liability rather than equity: see debt or equity: classifying preference shares.

Can every company issue redeemable shares?

Section 684 allows a limited company with a share capital to issue redeemable shares, subject to three limits:

• a private company’s articles may exclude or restrict the power (section 684(2));
• a public company may only issue them if its articles authorise it (section 684(3)); and
• no redeemable shares may be issued at a time when there are no issued shares that are not redeemable (section 684(4)).

Article 22(2) of the model articles for private companies expressly allows redeemable shares and lets the directors determine the terms, conditions and manner of redemption.

Who sets the redemption terms, and when?

Under section 685 the directors may fix the terms, conditions and manner of redemption if authorised by the articles or by a resolution of the company, and that resolution can be an ordinary resolution even though it amends the articles. Two conditions follow:

1. the directors must fix the terms before the shares are allotted (section 685(3)(a)); and
2. the terms form part of the rights that must be described in any statement of capital (section 685(3)(b)).

If the directors are not authorised, the terms must be set out in the articles themselves (section 685(4)). Good terms cover the redemption date or dates, whether the company or the holder may trigger redemption, the price (par, or par plus a premium), notice periods, what happens if the company cannot lawfully pay, and whether dividends accrue up to redemption. The allotment then follows the normal process, including director authority, pre emption and the SH01 return: see how to allot new shares.

How must a redemption be funded?

Section 686 says the shares cannot be redeemed unless fully paid, and must be paid for on redemption unless the terms allow the company and holder to agree a later payment date. Section 687 then limits the money that may be used:

• Distributable profits, or the proceeds of a fresh issue of shares made for the purpose (section 687(2)).
• Any premium payable on redemption must come from distributable profits. If the shares were originally issued at a premium, the redemption premium can come from a fresh issue up to the lower of the premiums originally received and the current share premium account, which is reduced accordingly (section 687(3) to (5)).
• Capital: only a private company, and only by following Chapter 5 (section 687(1) and section 709). The de minimis capital route in section 692(1ZA) is written for purchases of own shares, not redemptions.

Section 736 defines distributable profits as profits out of which the company could lawfully make a distribution of the same amount, so the test is the one used for dividends. Paying a redemption without them carries the same risks as an unlawful dividend.

What is involved in redeeming out of capital?

A private company can use capital only for the “permissible capital payment”, which is the shortfall after using available profits and any fresh issue proceeds (section 710). Available profits are measured on accounts prepared as at a date within the three months ending with the directors’ statement (section 712). The steps under sections 713 to 723 are:

1. A directors’ statement of the permissible capital payment and their opinion on solvency immediately after payment and for the following year, with an auditor’s report annexed (section 714).
2. A special resolution passed on the day of, or within the week after, that statement (section 716). The holder of the shares being redeemed is not an eligible member on a written resolution, and votes on those shares at a meeting are discounted if decisive (section 717). The statement and report must be made available to members, or the resolution is ineffective (section 718).
3. Publicity within the week after the resolution: a notice in the Gazette and either a national newspaper notice or written notice to every creditor, with the statement and report delivered to the registrar no later than the first notice (section 719).
4. Inspection of the statement and report at the registered office until five weeks after the resolution (section 720).
5. A five week window in which any non consenting member or any creditor may apply to court to cancel the resolution (section 721).
6. Payment no earlier than five weeks and no later than seven weeks after the resolution (section 723).

What happens after the shares are redeemed?

Under section 688 the redeemed shares are treated as cancelled and issued share capital falls by their nominal value. To protect creditors, section 733 requires a transfer to a capital redemption reserve equal to that nominal value where the redemption is wholly out of profits, or equal to any shortfall where fresh issue proceeds are less than the nominal value redeemed (subject to an exception for private companies also using capital). The reserve is treated as paid up share capital for reduction purposes but can be used to pay up fully paid bonus shares.

Within one month the company must give notice to the registrar specifying the shares redeemed, with a statement of capital (section 689). This is form SH02. Failure is an offence by the company and every officer in default.

What if the company cannot redeem on the due date?

Section 735 protects the company. It is not liable in damages for failing to redeem, and a court will not order specific performance if the company shows it cannot meet the cost out of distributable profits. If the company goes into liquidation, the terms can be enforced against it, but only after all other debts and any preferred share rights, and not if the company could not lawfully have made a distribution of that amount at any time between the redemption date and the liquidation. Holders therefore carry real risk, and investors often negotiate other protections such as enhanced dividends or voting rights while redemption is overdue.

How is the shareholder taxed?

For a UK company, the redemption payment is a distribution under section 1000(1) paragraph B of CTA 2010 to the extent it exceeds the repayment of capital on the shares, so any premium over the amount originally subscribed is normally taxed as a dividend. Section 1033 disapplies distribution treatment for an unquoted trading company where the redemption is made wholly or mainly to benefit the trade and the other conditions in sections 1034 to 1043 are met, or where the proceeds pay inheritance tax on a death. The shareholder then has a capital disposal. The company can apply to HMRC for advance clearance under section 1044 before paying, exactly as for a buyback.

How does this work in practice?

Illustration only. On retirement a founder converts value into 40,000 redeemable preference shares of £1, issued at par, redeemable at par in four annual tranches of 10,000. Each year the board checks distributable profits on the latest accounts, redeems 10,000 shares for £10,000, transfers £10,000 to the capital redemption reserve and files SH02 within one month. As the price equals the capital subscribed, there is no distribution element for the founder. In year three profits are insufficient, so the company cannot redeem and the founder cannot sue for damages; the tranche is deferred until profits recover.

What mistakes come up most often?

• Fixing the redemption terms after allotment instead of before it.
• Redeeming shares that are not fully paid, or redeeming when there are no distributable profits.
• Forgetting the capital redemption reserve, which overstates distributable reserves for later dividends.
• Treating a premium on redemption as capital for the shareholder without checking the distribution rules.
• Missing the one month SH02 deadline.

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Related Accountapedia entries

• Buying back shares out of capital
• Ways to return capital to shareholders
• Small share buybacks: the de minimis exemption
• The capital redemption reserve
• Accounting for a company purchase of own shares

Sources

• legislation.gov.uk: Act 2006 c. 46, section 684
• legislation.gov.uk: SI 2008/3229, schedule 1
• legislation.gov.uk: Act 2006 c. 46, section 685
• legislation.gov.uk: Act 2006 c. 46, section 686
• legislation.gov.uk: Act 2006 c. 46, section 687
• legislation.gov.uk: Act 2006 c. 46, section 709
• legislation.gov.uk: Act 2006 c. 46, section 736
• legislation.gov.uk: Act 2010 c. 4, section 1044
• legislation.gov.uk: Act 2006 c. 46, section 692
• legislation.gov.uk: Act 2006 c. 46, section 710

Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 8 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.