Enterprise Management Incentive (EMI) options offer businesses a flexible and tax-efficient tool to incentivise and motivate staff.
Happy employees tend to work with organisations who invest in employee engagement. This stands to reason: a positive workplace culture gets the best out of your team and encourages loyalty and staff retention.
So how can your business incentivise performance?
Well if you are a smaller company with gross assets of £30 million or less, then an EMI share option scheme could be a great move for your business. Whilst EMI options have been around since 2000, they have become even more advantageous and adaptable in scope over the last couple of year due to changes in the Finance Act 2013.
Primarily there is no income tax or National Insurance to pay on the shares if exercised within 10 years as long as the value of options has been agreed with HMRC in advance.
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In a nutshell, the total value of the options must not exceed £3 million and all employees are permitted to participate provided they work either 25 hours a week or more or 75% of their total working time.
Your business must be “independent” (i.e. not a 51% subsidiary of another company or controlled by another company or a company and persons connected to it) and have less than 250 full time employees.
It must also satisfy the qualifying trade test which, subject to exceptions, is a trade carried on wholly or mainly in the UK on a commercial basis with a view to profit.
Your business must also only have qualifying subsidiaries – it must hold over 50% of the ordinary share capital of any companies that it acts with. Joint ventures are therefore often excluded.
So how do EMI options work?
A company can grant EMI options to employees which enables them to acquire shares over a prescribed period. The maximum entitlement of an individual EMI option holder at the date of grant of the EMI option is £250,000. The scheme works like this:
– Your business grants the employee an option to acquire ordinary shares in the company
– The price of the option is fixed at the date of the grant (and agreed with HMRC)
– The employee exercises his or her option and acquires shares, at the fixed price, at a prescribed date in the future. This specific date in the future could be (a) after the employee has worked for x years or (b) the company is sold or (c) the company acquires a stock exchange listing.
If the fixed price of the options at the time of the grant is greater than or equal to the market value of the shares, then no income tax is payable when the employee exercises his or her option. So if the company has increased in value between these two dates, then the employee receives any uplift tax-free.
But if the price is less than market value when granted, then there will be tax to pay once the option to acquire shares is exercised. This is limited to the difference between the market value at the time of grant and the paid amount.
If the market value at the time of exercising the option is less than the option itself (ie. if the option was offered at less than the market value at the time of the grant), then tax will be paid based on the market value at exercise.No additional National Insurance contributions fall due on exercise.
However, if the EMI options are exercisable pursuant to an exit based scheme, then this agreement will be interpreted as a trading arrangement. So if the options were exercised for less than market value at the time of the grant, income tax (PAYE) and National Insurance will apply.
Provided that certain conditions are met, the company will receive a corporation tax deduction on the exercise of options granted under an EMI plan.
Capital gains upon the sale of shares
Capital gains tax may be due on any gains made on the disposal of shares acquired under an EMI option. This is calculated by deducting the base cost (which is their exercise price and any amount assessed to income tax) of the shares from the net sale proceeds.
CGT Entrepreneurs Relief
Relief applies to EMI share options as a result of changes in the Finance Act 2013. So Entrepreneurs Relief (ER) is now capable of applying to exit based EMI schemes.
ER enables an employee to sell his or her shares at a capital gains tax rate of only 10% for lifetime gains of up to £10m. This is in contrast to the usual rate of 28%.
Always get advance approval from HMRC on a proposed EMI scheme and if in doubt, get specialist advice as the devil is in the detail. Share options are ideal for small companies as they encourage and incentivise staff, they can be highly tax-efficient and are easy to implement.
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