However, when combined with the business tax advantages they can bring, it is little wonder why the popularity of share schemes (and the Enterprise Management Incentive (EMI) in particular), has soared in recent years.
Our Tax Partner, Oscar Wingham looks at how the EMI works and key points to consider.
Getting to grips with EMI
EMI share schemes allow selected employees (often key to the employer) to be given the opportunity to acquire a significant number of shares in their employer through the issue of options.
“The EMI scheme was created by the Government to make issuing share options more attractive. Their continued support of EMI, with additional tax savings being recently added, shows this support is likely to continue”, says Oscar Wingham.
Without such share schemes, shares would be taxed as normal earnings from employment, and therefore create additional tax liabilities that your employee would incur. So, probably not the best way to motivate them.
In order to avoid this immediate charge, options can be granted to an employee which give the employee the right to obtain shares at a later date. Provided that the terms of the option are that it must be exercised within ten years, any tax liabilities are deferred until the time the options are exercised. However, this may still be expensive for the employee if he/she is not then in a position to sell some of the shares in order to pay the tax arising.
The taxable benefits of EMI
So, herein lies the key benefit of using EMI. EMI allows options to be granted to employees which may allow the shares to be received without any tax bill arising until the shares are sold.
There are some rules which the employer and employee should note. Namely that, in order to qualify for the income tax and national insurance contribution (NIC) reliefs, the options awarded need to be exercised within ten years of the date of the grant. There is also a statutory limit of £250,000 in respect of options granted on or after 16 June 2012, which maximises the value of the options which may be granted to any one employee. Also, no employee may hold unexercised qualifying EMI options with a market value of more than £250,000. The market value is taken at the date of grant.
The key tax benefits of EMI are:
- The grant of the option is tax-free.
- There will be no tax or NICs for the employee to pay when the option is exercised so long as the amount payable for the shares under the option is the market value of the shares when the option is granted.
Also, the EMI allows the grant of nil cost and discounted options. However, in these circumstances, there is both an income tax and an NIC charge at the time of exercise on the difference between what the employee pays on exercise and the market value of the shares at the date of grant.
Following the acquisition of the shares, when the option is exercised, an employee may immediately dispose of, or may retain the shares for a period before selling them. At such time there will be a chargeable gain on any further increase in value. The CGT liability will depend on the availability of any reliefs and annual exemption.
What changes have recently been made to EMI?
From 6 April 2016, on capital gains below the basic rate band the CGT rate reduced from 18% to 10%. Likewise, on gains above this limit, the CGT rate reduced from 28% to 20%. Therefore, EMI has become more attractive to employees at any level of income.
Can I combine EMI and Entrepreneurs’ Relief to further reduce my CGT liability?
In certain circumstances, in respect of shares acquired through exercising EMI options, Entrepreneurs’ Relief may be available to reduce the CGT liability to 10%. Although the Entrepreneurs’ Relief conditions have to be satisfied they are modified so that the 5% minimum shareholding requirement does not apply and the 12 month minimum holding requirement is allowed to commence on the date the option is granted. These rules apply to shares acquired on or after 6 April 2012.
Would our company qualify for EMI?
There are certain criteria that must be met to ensure that you qualify for EMI. These include carrying out one or more ‘qualifying trades’, though trades included are fairly broad. Also, employees who already have more than 30% of the ordinary share capital cannot be granted options. Their working hours must be more than 25 hours per week for your company or group, or at least 75% of their total working time as your employee.
“EMI share schemes are a great way to offer employees ownership in your business and to therefore enhance retention and motivation. A corporation tax deduction for your business will broadly equal to employees’ gains. Therefore, putting in place share options will not have a direct cost to your business that raising salaries might”, says Oscar Wingham.
Provided that you qualify, EMI also offers flexibility, for example in limiting voting rights, providing pre-emption and the ability to set conditions of the EMI share option. There is much to consider, and choosing a professional advisor to assist you through the process would be a sensible way forward.
At Rouse Partners, our west of London based team have significant experience with EMI share schemes. We can help you decide whether EMI is appropriate for your business and whether the business will qualify. We are also able to help you with the necessary documentation required to establish and operate EMI and advise on the costs. Contact our team today.