Fractional shares: How do they work? And what are the pros & cons?

Karl 10th Nov 2023 2 Comments

Reading Time: 5 minutes

Fractional shares offer a way to invest without having to purchase a whole share. Because of this, fractional shares are typically popular with investors who have limited capital.

But how exactly do fractional shares work? Are they easy to buy and sell?

And… perhaps most importantly, are there any potential disadvantages?

In this article, were going to answer these questions, and more. So keep on reading for all the details, or click on a heading to jump straight to a section…

• • How do fractional shares work?
  • What are the benefits?
  • What are the disadvantages?
  • How to be successful buying fractional shares

What are fractional shares, and how do they work?

When a company issues shares, everyone who buys a single share becomes a shareholder.

So, let’s say a company issues 50 shares and you purchase a share for £100. Under this example, you’d own 1/50th of the company.

However, say you wanted to increase your stake in the company further down the line, but you’re reluctant to buy another full share.

Fractional shares allow you to own… err, ‘fractions’ of a share. This means you could increase your stake in the company by buying a tenth, sixth or fifth of a share – you can take your pick!

With fractional shares, you get all the same rights as shareholders owning full shares. The main difference is the amount you have to put down in order to invest in X company.

While fractional shares may seem straightforward, they’ve only really become ‘mainstream’ quite recently, and it’s mostly thanks to the introduction of mobile investing apps that have propped up over the past few years. That’s because many of these apps are targeted at younger audiences, who are more likely to be interested in buying small portions of shares.

In years gone by, investors would normally only ever find themselves holding fractional shares following a ‘stock split’ – a process a company increases the number of its outstanding shares of stock to boost liquidity.

How to buy fractional shares

To buy fractional shares you first need to find investing platform that supports fractional share trading.

Once you’ve found a suitable platform, you’ll need to open an account, and fund it accordingly.

Several UK-based brokerage platforms cater to investors looking to trade fractional shares. Each platform will have its own fee structure, so don’t just go with the first one you come across. Always do your own research to ensure you choose a platform that’s right for you. Depending on your investing style, the right platform for one person may not be the best platform for you.

With this in mind, some big-name brokers that give investors the option of buying fractional shares include Freetrade, Moneybox and Trading 212.

What are the benefits of buying Fractional Shares?

Now we’ve explained what fractional shares are, how they work, and how to buy them, let’s explore some potential benefits….

1. Access to high-priced stocks.

There’s no doubt that a big appeal of fractional shares lies in their accessibility and flexibility. For investors with a limited budget, fractional shares provide an entry point into the stock market that used to be reserved for larger investors.

In other words, before the accessibility of fractional shares, small-time investors would’ve found it tricky to gain exposure to high-priced stocks. Nowadays, investors – even those with £50 or so to invest – can easily to gain exposure to well-established blue-chips, tech giants, and the like.

2. Diversification.

Fractional share buying makes it easy for investors to spread their capital across various companies.

As we know, mixing things up is important when it comes to reducing investing risk. That’s because, instead of concentrating funds in a single company or industry, fractional share buying enables investors to easily diversify their investments across various sectors.

For more on this topic, see our article that explains the importance of holding a diversified portfolio.

3. Dividend reinvestment.

Just like with traditional ‘whole’ share buying, if you purchase fractional shares, you’ll still be entitled to dividend payments. (Though do note that not all shares pay dividends.)

Plus, it’s worth knowing that some platforms will automatically reinvest any dividends payments for you. This allows you to benefit from the magic of compound interest.

What are the disadvantages of fractional shares?

Now we’ve touched on some benefits of fractional share purchases, here are some things to watch out for…

1. Market volatility.

While fractional shares offer accessibility, don’t make the mistake of thinking that they’re immune to market fluctuations.

Just like traditional ‘whole’ shares, the value of fractional shares can be affected by market volatility – regardless of the diversity of your portfolio.

While there’s not a lot investors can do about this – besides ensuring their portfolio is diverse –  it’s something to keep in mind.

2. Platform limitations.

While fractional shares open doors to diverse investment opportunities, do understand that some brokerage platforms may not support fractional shares. Other platforms may permit you to buy fractional shares, though only for a limited number of organisations.

On a similar note, some investing platforms have been known to charge higher fees for fractional share purchases, as opposed to buying more traditional funds, ETFs, or single shares. This is why, if you’re interested in buying fractional shares, it’s really important to compare platforms, especially when it comes to fees. On this note you may find a 0% commission platform is the way to go.

3. The ISA problem.

If you want to invest in a tax-efficient manner then opening a Stocks & Shares ISA can be a great way to shield your returns from the taxman. That’s because any returns or dividends you earn from investments held within an ISA wrapper stay tax-free, year-after-year (or as long as you don’t withdraw your investments).

For the current 2023/24 tax year, UK-based investors can stash up to £20,000 into an ISA.

However, while ISAs are straightforward once you get your head around them, if you’re looking to invest in fractional shares, then this is where things get complicated.

That’s because HMRC has recently reiterated the fact that under ‘paragraph 7(2)(a) of the ISA Regulations’ a fraction of a share is not a share. Because of this, HMRC says fractional shares cannot be held in ISAs.

While many platforms may be unhappy with this seemingly futile rule, HMRC isn’t budgeting from it’s ‘long-standing view’.

While there are hopes on the horizon that the Chancellor will announce a change to this rule – perhaps as soon as the Autumn Statement – as things stand, you cannot put fractional shares into an ISA which is a big drawback.

How to be successful buying fractional shares

If you’re looking to buy fractional shares then do keep in mind that as with any type of investing, there’s always a chance the value of your portfolio will fall. In other words, fractional investing is no exception to this rule.

However, if you are comfortable with the risk of losing capital, then you can boost your chances of being a successful investor by doing your own research before picking shares, and by holding a diverse set of investments.

On a similar note, having a suitable investing strategy, understanding your tolerance for risk, and investing with a long-term horizon in mind, are other important factors to consider if you’re keen to increase your chances of success.

Are you investing for the first time? Take a look at our article that explains how to set you investing strategy in 5 simple steps.

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