If you’re a director or shareholder of a private company, you might be thinking about separating parts of the business. Maybe the divisions have grown apart, the owners no longer agree, or you're preparing for a sale or investment. In these cases, a demerger could help. But demergers are complex. Legal, tax and practical issues need careful planning to avoid costly mistakes or disruption.
This article is for SMEs and owner-managed businesses exploring a demerger. We’ll cover why you might do it, how it works, and what to watch out for - plus why getting early demerger legal advice matters.
Jump to:
Strategic reasons for a demerger
There’s no one-size-fits-all reason to demerge, but the underlying motive is usually the same: clarity. Whether that’s strategic clarity, operational focus, or clearer ownership structures, a demerger can help a business move forward with more purpose. Here are some of the common drivers:
- Operational focus: As businesses grow, they often diversify into different markets, products, or services. Over time, those divisions can start to pull in different directions. Separating them allows each to pursue its own strategy, with a dedicated leadership team and clearer accountability.
- Resolving shareholder disputes: When shareholders or directors no longer agree on the best way forward, a demerger can be a practical solution. Splitting the business allows each party to take ownership of a part of the company and move ahead independently, without needing to sell or buy each other out. If you have a dispute, read our minority shareholder dispute article to find out what your legal options are.
- Preparing for an exit: If you’re getting ready to sell all or part of the business, a demerger can help you put your best foot forward. Spinning off non-core or high-risk divisions can make the main business more attractive to buyers or investors – and may help you achieve a higher valuation.
- Simplifying ownership or structure: Some businesses carry legacy complexity and inherited structures that no longer reflect how the business operates today. A demerger can streamline things, making the business easier to run, govern, and eventually exit from.
While these are compelling reasons, they also involve complexity. Before going further, it’s worth taking a closer look at what a demerger involves, and how to choose the right route.
How to demerge your company: 3 common methods
If you’ve decided a demerger might be the right move for your business, the next step is working out how to do it.
In the UK, there are several legal routes to achieve a demerger, each with different implications for tax, shareholder treatment, and administrative complexity. Here’s a brief overview of the three most common methods:
Statutory demerger (via a company reorganisation)
This is a relatively clean and well-recognised method, often used when you want to transfer a part of your business to a new company under common ownership.
How it works
Using the rules set out in the Companies Act 2006, the existing company transfers part of its trade or assets to a newly formed subsidiary. The shares in that new company are then distributed directly to the existing shareholders, who end up owning both companies. Crucially, the parent company remains intact: you’re essentially splitting off one part without winding anything down.
Pros
- Can be tax efficient if structured correctly
- No need to liquidate the existing business
- Useful when you want to separate two trading divisions under common ownership
Cons
- Needs careful planning to qualify for tax reliefs (particularly under the 'demerger relief' rules)
- Complex legal and accounting steps involved
Capital reduction demerger
This method involves reducing the share capital of the company and using that reduction to distribute shares in a new company to the shareholders.
How it works
The existing company sets up a new subsidiary and transfers the relevant assets or business to it. Then, using a capital reduction (approved by special resolution and possibly the court), it reduces its own share capital and issues the new company’s shares directly to the existing shareholders.
Pros
- Flexible structure with no need to liquidate
- Suitable for more complex shareholder arrangements
- Can be efficient from a tax perspective if done properly
Cons
- Often requires court approval, adding time and cost
- Still needs strong legal and tax planning to avoid unintended liabilities
Liquidation demerger
As the name suggests, this route involves placing the existing company into solvent liquidation as a way to split the business between shareholders.
How it works
The company sells or transfers parts of the business to one or more new companies, and then liquidates. During the liquidation, shares in the new companies are distributed to the shareholders. It’s a more drastic route, typically used when the original company is no longer needed or where there’s a desire to formally wind it down as part of the restructure.
Pros
- Allows a full and final restructure – good if the parent company has outlived its purpose
- Useful for splitting ownership cleanly between shareholders
Cons
- More final, because the original company is dissolved
- Can attract higher administrative and tax costs if not carefully managed
- Not always necessary or desirable if the trading business will continue
Each of these options can be the right fit depending on your goals, whether that’s preparing for a sale, separating warring shareholders, or giving distinct business units space to grow. But the devil is in the detail. The wrong choice, or a poorly structured one, can trigger avoidable tax charges or legal complications.
Planning a demerger: practical steps
Once the strategic decision has been made to go ahead with a demerger, attention quickly turns to how you can do it. And this is where things start to get technical. A well-structured demerger relies on the smooth coordination of legal, tax, and commercial planning, and things can go off track quickly without it. Here’s what needs to be on your radar:
Legal considerations
The legal process will depend on which method you choose, but typically includes:
- Corporate structuring: Forming new entities, transferring assets or shares, and updating constitutional documents.
- Shareholder approvals: Depending on the route, you may need special resolutions and/or court approval.
- Contract and regulatory reviews: Third-party contracts (with suppliers, customers, or lenders) may include change-of-control clauses or assignment restrictions. You’ll also need to consider any licences or regulatory consents that may be affected.
- Group restructuring documentation: Including transfer agreements, share exchanges, and revised shareholder arrangements where needed. If you're considering updating your shareholder agreements, take a look at our article on why regular reviews are essential.
Each of these steps has knock-on effects. A poorly timed share transfer, for example, might invalidate an ongoing tax relief claim.
Employee share scheme considerations
If your company has an employee share scheme, such as EMI options, growth shares, or other arrangements, a demerger can introduce significant complexity. Share option holders are part of your ownership structure, and any structural changes could affect their rights, option values, and tax positions.
For EMI share option schemes, extra care is needed as these offer generous tax advantages but are tightly regulated. You’ll need to consider:
- Whether the demerger involves a change of control or business transfer that impacts EMI ‘qualifying company’ status.
- If options need to be 'rolled over' into a new entity and how to make this tax-neutral.
- Whether the demerger could be viewed as a disqualifying event, even unintentionally.
Poor handling can lead to lost tax relief or unexpected tax bills for employees, impacting morale and retention, so early planning and coordination between legal and tax advisers is essential to protect the tax status.
For non-tax advantaged schemes (e.g. unapproved options or growth shares outside a recognised scheme), the tax impact may be lower but commercial risks remain. You’ll need to assess:
- How to preserve the economic value of options across all post-demerger businesses.
- Whether option holders should receive shares in both companies and how these are valued and documented.
- Whether performance conditions or vesting schedules need updating.
It's important to review any scheme rules or shareholder agreements to determine whether a demerger would be classified as a 'corporate event', as this could trigger early vesting, buyout clauses, or other unintended consequences. Even if your employee share schemes involve only a small group of individuals, they can create significant complications if not factored into the planning process. To avoid disruption, share scheme design should be closely aligned with the overall demerger strategy, with any necessary changes agreed well in advance of implementation.
Tax planning
Demerger-related tax risks can be significant if the structure isn’t thought through:
- Capital gains: Transferring business assets or shares can trigger taxable gains unless specific reliefs apply
- Stamp duty: Stamp duty (or stamp duty land tax) may apply to share or property transfers within the group
- Corporation tax: The tax treatment of transferred assets needs to be clearly understood to avoid future challenges from HMRC
- Income tax exposure: Particularly relevant where shares or options are being restructured in connection with employee incentives.
To protect against these risks, businesses often seek clearance from HMRC in advance. While not mandatory, it provides reassurance that the proposed structure won’t trigger unexpected tax charges, assuming the business follows through exactly as described.
Operational steps
Beyond the legal and tax formalities, there’s the day-to-day side of running a newly demerged business (or two):
- Carve-out planning: Will each company have its own people, IT systems, branding, bank accounts, leases? Who’s responsible for what from Day 1?
- Communications: Internally and externally, the messaging around a demerger needs careful thought, especially if customers or staff are affected
- Governance: Will you need new boards, new shareholder agreements, or revised articles?
These questions may not have tidy answers, but they’re essential if the demerger is to land smoothly, and avoid unforced errors that cost time and goodwill
Bring in legal (and tax) advice early
If there’s one thing we can’t emphasise enough, it’s this: don’t wait to bring in your advisers.
A demerger isn’t something you can bolt on to an existing plan at the last minute. The choices you make at the outset, about structure, shareholdings, asset transfers, even the timeline, will shape the success (and cost) of the whole process. And once you’re in too deep, unpicking the wrong decisions becomes time-consuming, expensive, and sometimes impossible.
The most successful demergers are those where legal and tax advisers are involved from day one. Not just to do the paperwork, but to ask the right questions, challenge assumptions, and design a structure that fits your commercial goals.
So, if you’re thinking about splitting your business, whether to create focus, resolve conflict, or prepare for a sale, get the right advice early. A demerger is more than a legal process. It’s a strategic reset. Done right, it can set you up for the next phase of growth.
Our corporate team has advised growing UK businesses on everything from group restructures to pre-sale demergers and complex shareholder reorganisations. If you're exploring your options, we’ll help you navigate the legal and tax landscape, and structure the deal to fit your long-term goals. Fill out the short form below with your enquiry, and a member of our team will be in contact.
