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Growth and Exit

How to Structure a Share Buyback to Exit a Co-Founder from Your Agency Tax-Efficiently

8 min read · ·

Photo: James Thomas / Pexels

JW

Editorial Lead · Published 16 May 2026 · Updated 17 May 2026

Editorial content from the Agency Founder Finance team. For decisions specific to your agency, book a call.

Key takeaways

  • A share buyback can be the cleanest way to exit a co-founder, keeping the agency intact and avoiding external investors.
  • To achieve capital gains treatment, the buyback must meet all HMRC conditions, including a five-year shareholding period and full disposal of the departing founder's interest.
  • Capital treatment allows the leaving founder to pay 18% CGT under Business Asset Disposal Relief, versus 35.75% dividend tax on income treatment.
  • The departing shareholder must not be connected with the company after the buyback, meaning no employment, directorship, or connection to remaining shareholders.
  • Plan to meet the statutory conditions from the start, as HMRC's extra-statutory concession C16 is discretionary and not a reliable fallback.

Why a Share Buyback is Often the Right Move

When a co-founder leaves your agency, you have a few options. You can find a third-party buyer for their shares. You can dissolve the company and start again. Or you can have the company buy back the shares itself. That third route, a share buyback, is often the cleanest solution. It keeps the agency intact. It removes the leaving founder's ownership. And it avoids bringing in an external investor you might not want.

But a share buyback has tax traps. Get the paperwork wrong and HMRC treats the payment as a dividend. That means the leaving founder pays income tax on the proceeds, not capital gains tax. The difference is material. A dividend payment to a higher-rate taxpayer is taxed at 35.75%. A capital gain qualifying for Business Asset Disposal Relief (BADR) is taxed at 18%. On a £500,000 buyout, that is a £118,750 difference.

This guide covers how to structure a share buyback when selling agency tax UK considerations matter most. We work exclusively with agency founders. We see these scenarios regularly.

The Two Routes: Capital vs Income Treatment

HMRC gives you two possible tax treatments for a share buyback. The default is income treatment. That means the payment to the departing shareholder is treated as a distribution, like a dividend. The leaving founder pays dividend tax on it. The agency gets no corporation tax deduction.

The alternative is capital treatment. If you meet specific conditions, the buyback is treated as a disposal of shares. The leaving founder pays capital gains tax (CGT) on the gain. And if they qualify for BADR, that rate is 18% on gains up to £1 million.

You want capital treatment. Every time. The question is whether you can satisfy HMRC's conditions.

Conditions for Capital Treatment

To get capital treatment, the buyback must meet all of the following conditions under the Companies Act 2006 and HMRC's extra-statutory concession C16 (or the statutory route under CTA 2010 s.1033):

  • The buyback is for the benefit of the trade. This is usually straightforward for agency founders. You are removing a departing co-founder whose continued involvement is no longer workable.
  • The departing shareholder must be UK resident and ordinarily resident in the tax year of the buyback.
  • The shares must have been held for at least five years before the buyback. If the co-founder joined more recently, you have a problem. There is no workaround for this condition.
  • The departing shareholder must reduce their shareholding substantially. HMRC defines this as disposing of their entire interest. If they keep even one share, capital treatment fails.
  • The departing shareholder must not be connected with the company after the buyback. That means they cannot be an employee, director, or connected person (spouse, civil partner, close relative) of anyone who remains a shareholder.
  • The buyback must be funded out of distributable profits or the proceeds of a fresh share issue. You cannot use capital.

If you meet all these conditions, you can apply for capital treatment under the statutory route. If you fail one condition, you might still get capital treatment under HMRC's extra-statutory concession C16, but that is discretionary. Do not rely on it. Plan to meet the statutory conditions from day one.

How BADR Applies to the Leaving Founder

Business Asset Disposal Relief (formerly Entrepreneurs' Relief) is the main reason to pursue capital treatment. BADR applies to qualifying disposals of shares in a trading company. Your agency is a trading company if it carries on a trade. Most marketing, digital, creative, and PR agencies qualify.

For BADR to apply, the departing founder must have been an officer or employee of the agency for at least two years before the disposal. They must also have held at least 5% of the share capital and voting rights throughout that two-year period.

If they meet those conditions, the gain on their shares is taxed at 18% instead of the normal 24% CGT rate. The lifetime limit is £1 million of gains. Most agency founders selling a minority stake will be well within that limit.

Here is a real example. A co-founder of a 15-person digital agency in Manchester Northern Quarter holds 30% of the shares. They have been a director for four years. The agency is valued at £1.2 million. Their 30% stake is worth £360,000. They originally invested £20,000 for the shares. The gain is £340,000. Under capital treatment with BADR, they pay 18% CGT: £34,000. Under income treatment, they would pay 35.75% dividend tax: £114,750. The difference is £80,750.

That is worth getting right.

Step-by-Step: How to Execute a Tax-Efficient Share Buyback

Step 1: Value the Shares

You need a proper valuation. Not a back-of-an-envelope number. HMRC will scrutinise the price if it looks too low (gift element) or too high (excessive distribution). Use a qualified accountant or corporate finance advisor who understands agency valuations. They will look at revenue, gross margin, retainer book, and projected earnings. For a typical agency, the valuation might be 4-6 times EBITDA, adjusted for working capital and debt.

Step 2: Check Distributable Profits

The buyback must be funded from distributable profits. Your agency's distributable reserves are shown on the balance sheet as retained earnings. If you do not have enough, you cannot proceed with a standard buyback. You might need to consider a reduction of capital instead, which requires a court order. That is more expensive and slower. Plan ahead. If you know a co-founder is leaving in 12 months, start building distributable reserves now.

Step 3: Board Resolution and Contract

The company and the departing shareholder enter into a legally binding contract for the buyback. The board passes a resolution approving the purchase. The departing shareholder must not vote on the resolution (their shares are excluded from the quorum and voting).

Step 4: File the Correct Paperwork

You must file form SH03 with Companies House within 28 days of the buyback. This notifies the registrar of the share cancellation. You also need to update the company's register of members. The shares are cancelled, not held in treasury, unless you specifically elect otherwise.

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Step 5: Apply for Capital Treatment

You submit a claim to HMRC for capital treatment under CTA 2010 s.1033. This must be done within two years of the buyback. The claim includes a declaration that all conditions are met. Your accountant will prepare this alongside the company's tax return (CT600).

Step 6: The Departing Founder Files Their Tax Return

The departing founder reports the gain on their self-assessment tax return (SA100). They claim BADR on the SA108 capital gains pages. The gain is reported in the tax year the buyback completes, not when the contract is signed.

Common Mistakes That Cost Agency Founders Money

I see the same errors repeatedly. Here are the ones to avoid.

Mistake 1: Not checking the five-year holding period. If your co-founder joined three years ago, you cannot get capital treatment under the statutory route. You might get C16 treatment, but that is not guaranteed. The only fix is to wait, if you can.

Mistake 2: Letting the departing founder stay as a director. If they remain on the board after the buyback, they are still connected. Capital treatment fails. They must resign as a director and employee. No consulting arrangement either. That counts as connection.

Mistake 3: Paying in instalments. HMRC treats staged payments as income in some cases. If you must pay over time, structure it as a single debt with interest, not as multiple buybacks. Better still, pay the full amount on completion.

Mistake 4: Using a holding company structure without advice. Many agency founders set up a holding company above the trading company. If the departing founder's shares are in the holdco, not the trading company, BADR may not apply. The holding company must also be a trading company in its own right, which is rare. Get specialist advice if you have a group structure.

What About the Agency's Tax Position?

The buyback itself does not give the agency a corporation tax deduction. You are buying shares, not paying a salary or a trading expense. The payment comes out of post-tax profits.

However, if the buyback is funded by borrowing, the interest on that loan may be deductible against corporation tax. That depends on the loan purpose and the thin capitalisation rules. For most agencies borrowing £100,000-£500,000 for a buyback, interest is deductible provided the loan is used for the company's trade (which includes buying back shares for the benefit of the trade).

The agency also incurs professional fees: legal, valuation, accounting. Those are deductible as trading expenses in most cases.

Alternatives to a Share Buyback

A buyback is not always the best option. Consider these alternatives.

Sale to a third party. If the departing founder finds a buyer, the company is not involved. The founder sells their shares directly. This is simpler but brings in an external shareholder you might not want.

Sale to the remaining founders. The remaining shareholders buy the departing founder's shares personally. This avoids the buyback conditions entirely. The departing founder gets capital treatment automatically (they are selling shares, not receiving a distribution). The remaining founders fund the purchase personally, not through the company. This works well if the remaining founders have cash or can borrow against personal assets.

Company liquidation. If both founders want to exit, winding up the company and distributing assets can be tax-efficient. But that is an end, not a restructuring.

For most agency founders removing one co-founder, a share buyback or a personal purchase by the remaining founder is the best route. Which one depends on your distributable profits, the departing founder's shareholding period, and your cash position.

When to Start Planning

Start planning at least 12 months before the intended exit. That gives you time to build distributable profits, check the five-year holding period, and get a valuation. It also gives you time to restructure if needed, such as moving shares from a holding company to the trading company.

If the co-founder has already left and you are now dealing with the buyback, move quickly. The longer you wait, the more likely HMRC will question the transaction. And if you have already paid them as a dividend, you cannot unwind it.

Speak to your accountant before you sign anything. If you do not have an accountant who understands agency share buybacks, talk to us. We work exclusively with agency founders who work with agency founders every day. We can run the numbers, check the conditions, and handle the HMRC filings.

One final point. If your agency has contractors or freelancers, check whether any of them might be deemed employees under IR35. A departing co-founder who stays on as a contractor can create IR35 problems. We cover this in our contractors and IR35 guide.

Get the structure right, and selling agency tax UK becomes straightforward. Get it wrong, and you leave a six-figure sum on the table.

Frequently asked questions

Can a share buyback be funded from future profits rather than current distributable reserves?
No. The buyback must be funded from distributable profits that exist at the date of the buyback. You cannot use future profits. If your agency does not have enough retained earnings, consider a personal purchase by the remaining founder or a reduction of capital (which requires a court order and is more expensive).
What happens if the departing co-founder wants to keep a small shareholding after the buyback?
Capital treatment fails. HMRC requires the departing shareholder to dispose of their entire interest. If they keep even one share, the payment is treated as a dividend. They pay income tax on it. No BADR. No 18% rate. If they want to stay connected, the personal purchase route (remaining founders buy the shares) is better.
Does the five-year holding period apply if the co-founder inherited the shares from another founder?
Yes, the five-year period applies to the current holder. If they inherited shares three years ago, they do not meet the condition. However, if the shares were transferred between spouses or civil partners, the holding period of the transferor can be added. This is a complex area. Get specific advice from your accountant.
Can the departing co-founder be paid in instalments over several tax years to spread the gain?
You can structure the payment as a single debt payable in instalments. The gain is reported in full in the tax year the buyback completes, not when each instalment is paid. Spreading the payment does not spread the gain for CGT purposes. If HMRC views the instalments as separate buybacks, capital treatment could fail. Pay in full on completion if you can.

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