3.1 Interest payments

Interest is not a distribution of profits, but a discretionary cost of capital, payable if the society can afford to do so. A society’s Board is responsible for ensuring that the society’s affairs are conducted in accordance with its Rules, in the best interests of the society and the community it is set up to benefit. Therefore, any decisions on interest payments must consider its upcoming commitments, especially those in the next 12 months.

Setting interest rates

The Co-operative and Community Benefit Societies Act 2014 (CCBS 2014) does not define how interest rates are to be decided, therefore societies should develop a clear, comprehensive Interest Policy to ensure that the agreed process is followed each year.  

Setting interest is a complex issue, requiring an overview of the society’s current and future needs, which means that the Board needs to consider all the relevant information together with both the financial performance and future business strategy of the society.  The Board must focus on creating a financially stable society by considering its upcoming capital needs. If the society will require additional input of share capital, the interest rate could be used to motivate investors to invest further. 

A society's Board has the discretion to set an interest rate to pay to investors based on what is affordable looking at profit and considering costs in the next year.  Typically, interest rates on community shares range between 1-7%.  

The Board must not pay more interest than is necessary to attract member capital that it needs to further the society’s objects.

The FCA makes it clear that a society must not pay an interest rate greater than the society’s declared maximum rate in its Rules, even if the society has made above expected profits, or has paid below the maximum interest rate in previous years. For more information on setting an appropriate rate of interest when running a share offer, read Community Share Handbook 6.1 Interest on share capital.

The society should be working towards a level of profitability that fulfils its original intention stated in the share offer document(s). If it is clearly unaffordable at financial year end, the Board could set the interest at a reduced rate. A reduced interest rate needs to be presented and explained at the AGM, at which members receive the annual accounts. The Board should not set an interest rate that relies on future trading (unless it has a commercial contract that underpins this, e.g. business activity from energy generation with a fixed income agreement). Rather the Board should carefully consider the society’s current financial position and its upcoming commitments each financial year, before deciding on the annual interest rate payable on community shares capital. 

If a society is holding more share capital than it needs, an alternative option to reducing the society’s maximum interest rate could be that the Board encourages members to withdraw a certain percentage of their shareholdings. A reduction of share capital held by the society will reduce the amount of interest that it needs to pay year-on-year on share capital, which could make the business more sustainable (see Community Shares Finance Guide 3.2 Managing withdrawals). 

The Board may also give members the option to choose a lower rate of interest or waive their interest payment completely. 

During the Financial Year

If there is a full withdrawal by an individual investor part-way through the society’s financial year, then the society needs to record this date so that the interest payment can be calculated when the society's accounts close. The interest payment calculation is subject to the society's policy, e.g. they may choose to calculate on a daily/quarterly basis. The society should have a clearly written policy, so that the process can be easily understood by members. 

Once the society reaches its financial year end, it first determines what level of interest payments is affordable, then it can calculate the payments due to be paid on investments held in the financial year that has just ended. This information is presented at the AGM. The interest payments are then made after the AGM. 

If a member withdraws their full investment, they can still be paid an interest payment in the following financial year, as this would be calculated on the amount held until the date of withdrawal. The interest is not paid when the withdrawal is made, rather at the set date each year when all other member interest payments are made. 

Financial Year End

Preparation of accounts  

Section 89 of the Co-operative and Community Benefit Societies Act 2014 obliges a society to submit an annual return to the FCA within seven months of its financial year end. 

A society should ensure that it works with an accountant that is well-versed in society accountancy treatment (this differs from company or charity accountancy treatment). 

Accountancy treatment must adhere to FRS102 standards. 

Accounting treatment for interest paid 

A society should account for any interest paid to members in the financial period in which it is paid out.  Interest paid to members is not shown as a liability in the accounts until the interest has been formally presented at the AGM. Once that has happened the interest must either be paid in cash; credited to a member share capital account; credited to a member interest account (in current liabilities); or credited to a voucher account (in current liabilities). At the same time, the Debit should be recorded in equity as described below. 

The accountancy treatment of any interest payment is considered a movement of equity and should be accounted for in the Statement in Changes of Equity (SOCIE) or in the Statement of Income and Retained Earnings (SOIRE). While share interest payments are discretionary cost of capital, they should not appear in the Revenue Account (Profit & Loss/Income Statement) as societies account for share interest in the SOCIE. This is because community share interest is inherently connected to ownership via the community shares investment, whereas interest on commercial loans is external, and so should appear in the Revenue Account.  

The SOCIE should include: 

• Opening balance  
• New share capital issued  
• Share capital withdrawn  
• Shares cancelled (upon death of a member)  
• Shares withdrawn and subsequently gifted back to the society (donated to the society)  
• Any interest paid out or credited to members’ share accounts (for a Charitable CBS, this is stated in the Statement of Financial Activities (SOFA), see below). 

Interest should be recorded as follows: 

• Interest credited to the Members Share accounts should appear as transfer from the Revenue Account to Share Capital (i.e. Dr Revenue Account, Cr Share Capital). 
• Interest paid as cash should appear as debit to the Revenue Account (i.e. Dr Revenue Account, Cr Cash). 
• Interest paid as vouchers – should appear as a debit to the Revenue Account (i.e. Dr Revenue Account, Cr Vouchers - current liability). 
• Interest credited to members interest accounts - should appear as debit to the Revenue Account (i.e. Dr Revenue Account, Cr Current Liabilities). 

Using the Statement of Income and Retained Earnings (SOIRE) 

The SOIRE is an alternative to using the SOCIE. It should only be used where the only movement on reserves is the payment of share interest. It should not be used where there are additions to or withdrawals from share capital in the year. 

The SOIRE is simply an extension of the Revenue Account. After “Profit after tax” there are the additional lines: 

• Revenue Account brought forward (i.e. retained earnings) 
• Interest paid on shares 
• Revenue account carried forward (= profit after tax, plus revenue account brought forward, less interest paid on shares) 

See section below for different treatment of Charitable Community Benefit societies. 

Accounting treatment for Charitable Community Benefit Societies (CCBS) 

Please note, there are some differences in accountancy treatment for a Charitable CBS (as opposed to a non-charitable CBS).  

Interest on shares should be included in the SOCIE and should not be included under the expenditure on charitable activities in the SOFA. The SOCIE should also include details of any new share capital, share withdrawal or donation of shares as this is a movement of share capital (equity). 

However, in a year when there is no movement of share capital (no new share equity is issued, there is no share withdrawal nor donation of shares) a SOCIE is not required, and so the share interest can instead be recoded on the SOFA as a transfer between funds. 

Please refer to the Charities SORP Information Sheet for Community Benefit Societies, which includes templates to support Charitable CBSs. 

Annual General Meeting (AGM)

At the AGM, the Board must present the previous financial year’s accounts to members. The Annual Accounts and accompanying Chair/financial report should be distributed to members in advance of the AGM, usually 14 days in advance. At the AGM the members are presented with the annual interest rate set by the Board.  

 If the society wishes to dis-apply the audit for the next set of accounts, a resolution needs to be passed at the AGM by member vote. Note, dis-applying the audit can only be taken if permissible according to society law audit requirements. (See ‘Audit Thresholds’, section 3.5 Community Shares Handbook.) 

Following the AGM, the interest payments are made to members. There are different methods for paying interest on share capital and this should be explained in the share offer document. Methods of paying interest are detailed below.  

The payment of interest is made in the financial year that follows the year in which it was realised, e.g. the interest payment relates to the shareholding held in Year 1 is paid to members in Year 2. 

Interest credited to a member’s share account 

This increases the amount of share capital in the society and improves short-term liquidity. If this is offered, the impact of compounding interest should be considered in the society’s forecasts. A society crediting interest to members’ share accounts should consider the potential for over-capitalisation and the associated long-term costs relating to interest payments.  

Interest credited to a member’s interest account 

The interest held in this account is payable from the society to the member on request, or at the point of withdrawing the capital on which the interest is paid. It can be a useful means of deferring cash payable to members, while avoiding the compounding effect of paying the interest into the share account. Any funds held by the society in an interest account are liabilities, not equity, as they are funds owed to members, not funds belonging to the society. As a liability, the funds are higher on the hierarchy of capital in the case of dissolution of the society. 

Interest paid by bank transfer/cheque to all members 

The administrative burden of this should be considered early on, as seeking bank details or writing cheques further down the line can be very time consuming, depending on the number of members. A society should discuss with its bank whether there is a facility for batch payments, so that the society could provide a spreadsheet with all relevant payment details and the bank makes the payments. 

Interest paid in vouchers to be spent in the business 

This can be a cost-effective mechanism which reduces the cash outlay to the society and encourages future trading. In effect, while a member may spend the value of the interest of the retail price of goods and services provided by the society, the society simply pays the cost price for the item(s).  

Vouchers issued will be accounted for as a liability until they are redeemed, therefore it is recommended to include an expiry date on these vouchers. VAT is applicable to goods and services provided and paid for by vouchers, as it is when they are paid in cash. 

Tax implications and duty to report to HMRC 

Interest on share capital is paid gross of personal income tax unless the member is not a UK tax resident. It is the responsibility of members to include in their Self Assessment Tax Return any interest on share capital paid to them or credited to their share account in the tax year that the interest is paid or credited. 

When a society makes a gross interest payment to an individual member of more than £250* of interest or dividend then the society must report this annually to HMRC within three months of the year end, including details of the interest payments made in the completed financial year relevant to the return. The RS-01 template for submitting interest payment details is available. The return must be sent to HMRC within three months of the end of the society’s accounting period, otherwise HMRC is empowered to deny tax relief to the society for the interest payments.  

Non-UK residents are paid net of tax. Any tax deductions made as part of this payment need to be declared to HMRC using the CT61 form which is available by request.

There are specific tax implications for US citizens, covered in Section 5.7 of the Community Shares Handbook. 

Interest should be declared by a UK tax resident investor to HMRC in the year it is acquired by the investor, even if the payment is not actualised via a cash transaction from the society to the investor (e.g. it is credited to the share account). The society can advise that the investor should fill in a Self- Assessment Tax Return annually with their interest as reported in their investor statement from the society (interest that is either paid as cash or converted into new share capital). 

Share interest income is considered part of the savings allowance by HMRC. Declaring share interest each year avoids a build-up of interest over multiple years, which otherwise could potentially take the investor over their interest income annual allowance. Please refer to HMRC guidelines about tax on savings interest for details.

If a society is trading and is liable to corporation tax, interest paid on members' shares is tax deductible and can be claimed as such on the society's CT600 tax return. This deduction is allowed where: 

• Interest is credited to a member’s share account 
• Interest is credited to a member's interest account 
• Interest is paid by bank transfer/cheque to all members 
• Interest is paid in vouchers to be spent in the business 

On the society's tax return share interest should be treated as a non-trading loan relationship debit. 

*While ITA07/S887 mentions a £15 limit, in practice HMRC have confirmed they only want to see if it if more than £250, as per CTM40525. 

Timetable for accounting for interest 

Example for a society with a proposed 3% interest rate from Year 2 and proposed withdrawals from Year 3.