Business Tax, Personal tax, Share Schemes, Small Business, Tax Planning, Tax Relief

Understanding tax advantaged share schemes

By RJP LLP

Understanding tax advantaged share schemes

Smaller companies can find it difficult to compete with larger employers when it comes to attracting the best possible talent. As an employer, it is important to find a USP and one of the biggest incentives a smaller firm can offer is the opportunity for staff to be more involved in the business than they would be in a large corporate; working for a small business is potentially a chance to be an entrepreneur but without the financial risks – a very attractive proposition for the right type of person.

One way to encourage your employees to think more like business owners is to give them shares and allow them to directly share in the growth of the company. However offering employees a shareholding in your company comes with a number of concerns. For example do you want them to have voting rights and an entitlement to dividends perhaps before they have proved themselves? What will happen to the shares if they decide to leave the company? And of course, there are tax implications if you give them shares, because they will need to pay income tax on the value of the shares you give them. What do you consider the value of those shares to be? Will HMRC agree?

You can avoid these issues by offering your key employee(s) the opportunity to participate in a share option scheme. And for small and medium sized companies the enterprise management incentive (EMI) share option scheme offers the best tax incentives for employer and employee alike, whilst addressing the practical issues touched on above.

What are the benefits of an EMI share option scheme?

The employee is granted an option to acquire shares in the future for their current market value rather than having shares immediately. The option can be exercised and the shares purchased, at a time agreed in advance, e.g. upon reaching set targets, at a specified time or immediately before a trade sale.

The employee does not therefore hold shares at the outset but does have a strong incentive to contribute to the growth of the company, because they have the incentive of the right to buy shares in the future, but at today’s agreed price.

If you do want the employee to hold shares in a short timescale, the option can be exercised quickly, provided that has been agreed in advance.

The tax advantages are:

No tax is payable on grant of the option;
No tax is payable on exercise of the option, providing the agreed market value is paid for the shares;
On disposal of the shares, capital gains tax is payable on the difference between the sale proceeds and the exercise price. This may be at the reduced rate of 10% because entrepreneurs’ relief (ER) is often available;
The company can claim corporation tax relief when options are exercised, based on their market value less their exercise price.

Who is eligible to start an EMI share option scheme?

Small, higher risk companies can offer their employees EMI share options, subject to an overall limit of £3m.

The company must not be a subsidiary company, and if it has subsidiaries itself they must be at least 51% owned;
The company’s gross assets must not exceed £30m and it must not have more than 250 ‘full time equivalent’ employees;
The company must carry on a qualifying trade and have a permanent establishment in the UK. Excluded trades include dealing in land or shares, banking, insurance, money lending, HP, leasing, legal and accountancy services , farming, hotels and nursing homes.

What are the alternatives to an EMI scheme?

Not all qualifying companies want to create an EMI scheme for a variety of reasons. Either they do not want to incur the administrative costs – although these are minimal and tax deductible. Or they may be trading in industries that do not meet the qualifying criteria. In these circumstances, it is still possible to offer your employees shares, either directly or through other tax advantaged share schemes, however the tax advantages may not be as good.

If you would like to discuss employee share schemes in more detail, please contact Lesley Stalker via partners@rjp.co.uk

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