[2024] UKUT 222 (AAC)

Which options were available when calculating ZA’s capital through her shareholding in CG?

At the relevant time, ZA and JA were shareholders of CG. It is a limited company, meaning it is a legal person separate and distinct from its members. In CA v Hastings BC [2022] UKUT 57 (AAC), Upper Tribunal Judge Gullick KC explained that ordinarily, it is the value of a person’s shareholding in the company, not the value of the company’s assets, which is the issue when determining what capital they possess. He relied on the earlier decision of R(SB)57/83, an appeal about a different benefit, but involving a claimant who was a shareholder in a limited company.

As Judge Gullick explained, R(SB) 57/83 confirmed the shareholding would have to be valued, and this would be determined by the price a willing buyer would pay for them to a willing seller (see paragraphs 35-36 of CA).

Judge Gullick explained that regulation 49(5)(a) and (b) of the 2006 regulations contain a different provision where someone is treated as if they are the sole owner or partner in the business of a company. He confirmed regulation 49(5) is a discretionary power. This is indicated by using: “may be treated as if he were such sole owner or partner” (my underlining added) in the opening words.

After this wording, regulation 49(5) proceeds to state: “and in such a case”, followed by sub-paragraphs (a) and (b), each of which use the word “shall”. This means that where a claimant is in a position analogous to a sole owner or partner in the business of a company, and a local authority (or tribunal) decides to exercise its discretion to treat them in that way, the local authority must apply the provisions in both regulation 49(5)(a) and (b). The effect is that:

Turning specifically to regulation 49(5)(b), in CA, Judge Gullick explained that a person’s share of the value of the company’s capital is calculated by identifying his or her share of the net assets of the company, after taking into account its liabilities. See paragraph 36 of CA. I agree with his analysis.

The first option available to Barnet and to the tribunal was to calculate the capital ZA actually held by identifying the value of her shareholding in the companies. This involved identifying the price a willing buyer would pay for her shares to a willing seller. This would apply to JA’s shareholding as well, because his income and capital was also relevant to the housing benefit calculation.

Barnet has stated that the value of the shareholding in the three companies would probably be impossible to value because they are unquoted shares that have never been traded on the stock market (page 8 of its latest response). Ms Parry also confirmed this position at the hearing.

I appreciate this may be the factual position for ZA and JA’s specific shareholdings in the companies. However, this does not mean it is incorrect to calculate their actual capital in that way

In reaching this analysis, I note that regulation 49(5)(a) also illustrates how a person’s capital in a company should ordinarily be calculated – by identifying the value of his holding in the company. Regulation 49(5)(a) confirms this is the usual calculation method, and then explains it is to be disregarded where the discretionary power in regulation 49(5) is used to treat the person as having capital in the company instead.

A second option available to Barnet and to the tribunal was to treat ZA and JA as having capital under regulation 49(5) on the basis that they stood in relation to CG in a position analogous to that of a sole owner or partner in the business of the company. This power is not available generally for all shareholders in a company. It requires the shareholder to hold a position in relation to the company similar to being a sole owner or partner in it – meaning they have a level of control over how it operates.

While the power in regulation 49(5) is discretionary, where exercised, it requires both regulation 49(5)(a) and (b) to be addressed. Applying regulation 49(5)(a), one would disregard the value of ZA and JA’s shareholding in the companies, which Barnet has, in any event, described as likely worthless. Applying regulation 49(5)(b) as explained in CA, one would then identify ZA and JA’s share of the assets in the companies, having taken into account the companies’ liabilities.

Barnet confirmed it attributed capital to ZA and JA representing the retained profits in CG, calculated as the value of that company’s assets and having taken into account its liabilities (page 8 of latest response). I explored this with Ms Parry at the hearing. Looking at the unaudited financial statements for CG ending 30 April 2020, these confirm CG had current assets of £304,739 and liabilities of £20,638. This produced a net current assets figure of £284,001 (page 812 of bundle). The statements also record this as the profit and loss account figure and the shareholders’ funds figure for that year. Page 811 of the bundle records it as the retained earnings at the end of that (accounting) year. Barnet used £284,001 as capital for CG in its letter dated 17 December 2021, stating this was its net assets with retained profits carried forward each year (page 1089 of bundle).

I have considered whether, once a company’s net assets are categorised as retained profits or shareholders’ funds, they cease to be the company’s assets and become something else that could, under the 2006 regulations, be viewed as capital actually held by a shareholder. However, I am not satisfied this is the position. Firstly, there is already a method for calculating a shareholder’s capital in a company (i.e., how much a willing buyer would pay for their shares). Secondly, a shareholder in a company is generally entitled to a share of the profits paid out of the company through the payment of dividends, but only if the company decides to issue dividends.

A dividend will generally be paid based on the money remaining in a company after its business expenses and liabilities have been paid. Where ordinary shares are held, the amount of dividends a shareholder can receive reflects the number of shares they own in the company. However, the company officers decide whether to issue dividends, based on any written requirements about how this is done. This usually requires agreement at a company meeting to issue dividends and a decision about how much money to issue per share.

In general terms, a company may decide to retain its profits and a shareholder has no guarantee that it will issue dividends. This explains why a shareholder’s actual capital is calculated based on what a willing buyer would pay a willing seller for their shares; a holder’s shares contain the potential for dividends rather than a guarantee they will be issued.

It seems to me that one reason why regulation 49(5) provides for a person to be treated as having a different amount of capital to the value of their shareholding, may be because it can only be triggered where the person is in a position analogous to a sole owner or partner in the business of the company. They will likely have enough control over the company to resolve to pay out shareholders’ funds through dividends.

However, once a local authority (or tribunal) exercises the discretion in regulation 49(5) of the 2006 regulations, they must apply both paragraph (5)(a) and (b), triggering consideration of regulation 49(6). Even where a person’s share of the value of the net assets in the company can, in principle, be treated as their capital, it is disregarded while the person undertakes activities in the course of the company’s business.

The tribunal could therefore identify ZA and JA’s capital in relation to the companies by calculating the capital they actually held. Another option open to the tribunal was to treat ZA and JA as having capital under regulation 49(5). If the tribunal decided to take the latter approach, it was required to go on to consider regulation 49(6).

At page 8 of its latest response, Barnet maps what it did against the approach identified by Judge Gullick in paragraph 36 of CA. Barnet disregarded the value of ZA and JA’s holdings in CG (regulation 49(5)(a)) and calculated their share of the net assets in that company, by deducting its liabilities and reached a figure equal to the retained profits held in the shareholder funds (regulation 49(5)(b)) Ms Parry conceded Barnet did not then proceed to apply regulation 49(6), the final step Judge Gullick explained was required (paragraph 37 of CA). Barnet therefore did not calculate ZA’s actual capital under regulations 44 and 47. Nor did it apply regulation 49(5) and (6) to her correctly.

Paragraph 7 of the tribunal’s decision notice and paragraph 38 of its Statement of Reasons confirm it adopted the same approach as Barnet when calculating ZA and JA’s capital. I am satisfied this demonstrates the tribunal materially misdirected itself about the relevant law and therefore made an error of law.

While Section 6 provides an exhaustive list of the ways in which to calculate the capital they held (regulations 47 to 48) or were treated as holding (regulations 46 and 49), regulation 49 sets out different ways in which a person can be treated as possessing capital. My analysis of the wording of regulation 49 is that it indicates the grounds in regulation 49(1), (2), (3) and (5) can be satisfied independently of each other. When deciding whether a person has notional capital, it is therefore open to a local authority or tribunal to consider whether any of the notional capital grounds in regulation 49 apply to them.