EMI options can be used to retain and motivate selected employees or all employees (as the company’s shareholders see fit). The scheme confers significant tax benefits on both companies and their selected employees.
EMI is extremely flexible and can be tailored to meet a company’s specific objectives.
EMI schemes allow companies to grant options (i.e. rights to acquire shares) to qualifying employees on a highly tax efficient basis for both the employer and participating employees.
They can be used by both private and smaller listed companies alike and either for targeted grants to specific key employees or on a wider (even all employee) basis.
EMI options can be granted over UK or overseas company shares, provided that at least one company in the relevant group has a UK permanent establishment.
Certain other requirements must be met by both the company and the employee in order for options to qualify as EMI options, such as a limit on a company or group’s gross assets through to the employee working at least 25 hours a week (or at least 75% of his or her overall paid time).
EMI can form a tax efficient part of a company’s succession planning (bringing selected key employees through to have a stake in the business) or be used as a pure incentive arrangement.
EMI schemes offer significant flexibility and arrangements can be designed to meet a company’s commercial objectives.
EMI also confers real tax benefits on both employers and employees which can result in:
- No tax cost (subject to certain conditions);
- No employer’s National Insurance Contributions (“NIC”) on either the grant or exercise of the options (provided certain conditions are met); and
- Corporation tax relief on the difference between the market value of the shares at exercise of the options (i.e. when the shares are acquired) and the option price paid. This can provide a substantial windfall to the business/shareholders on a sale.
- Lower tax costs than cash/non-EMI arrangements
- No income tax and no employees’ NIC on either the grant or exercise of the options (provided certain conditions are met)
- Capital Gains Tax (“CGT”) on the growth in value of the Growth Shares; and
- Importantly, most EMIs will start to accrue the 12 month holding period for entrepreneurs’ relief (“ER”) from the date of grant of an EMI option (resulting in a 10% (as opposed to 20%) rate of CGT). There is also no need for a 5% holding under EMI in order to qualify for ER; so even small minority holdings of Growth Shares can potentially qualify for the 10% rate of CGT.
EMI also allows companies to obtain agreement from HM Revenue & Customs as to the valuation of the shares under option – providing tax and valuation certainty to the company and employees alike.
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As an HM Revenue & Customs tax favoured arrangement there are certain qualifying conditions to be met in order for companies and employees to qualify under EMI. Some of these can be restrictive, although in cases of doubt HMRC can be approached for pre-clearance.
Although granting EMI options can be done with relative ease, there are a number of post-grant pitfalls that need to be borne in mind.
What are EMI options?
Enterprise Management Incentives (EMIs) are employee share options under which companies can grant rights to their employees to acquire its shares.
Over 8,600 companies were using EMIs in tax year 2016 and, due to increasing popularity by end of 2018 tax year, 11,000 companies were actively operating an EMI plan.
Why use EMI options?
EMI options are a cost-effective and tax-efficient way of motivating current employees and enticing new talent. EMI has numerous tax benefits for both the company and its employees.
EMIs offer significant flexibility in their design and can be structured to meet defined business and shareholder goals.
There is no tax cost nor any National Insurance Contributions on the grant of EMI options and usually no such liabilities on exercise of the options when the shares are acquired. For the company, the difference between the market value of the shares at exercise of the options and the option price is eligible for Corporation Tax relief. This can provide a substantial windfall to the business/shareholders in a profit-making company.
Which businesses are eligible for EMIs?
To be eligible, the company and its group must have gross assets of £30 million or less, The company whose shares are under option must be independent (i.e. not controlled by another company). It must have fewer than 250 full-time equivalent employees, have a place of business in and one group company must carry on trade predominantly or wholly within the UK. Companies with certain trading activities are excluded. These excluded trades catch (amongst other things):
• Property development
• Legal services
• Ship building
Which employees are eligible for EMIs?
Employees must work for the company/a subsidiary for more than 25 hours per week, or at least 75% of their working hours if they work less than 25 hours for the business. An employee holding 30% or more of the ordinary share capital, whether directly or indirectly (and with certain relatives), cannot be granted an EMI option.
What are the benefits for employees?
EMI options provide a stake in the company for participating employees and an interest in its capital value. They can also be used as a means of bringing employees through to become shareholders with potential dividend and voting rights.
With proper structuring EMIs can play a key role in aligning the interests of employees and business owners.
There is no tax on grant of an EMI option. The exercise of EMI options is not subject to income tax or employees’ National Insurance Contributions, provided the shares are purchased at a price which is at least equal to their market value when the employee was granted the option. Importantly, EMI share valuations can be approved in advance and take advantage of certain minority shareholdings discounts, reducing the buy-in cost for employees.
If an employee sells their shares they may have to pay Capital Gains Tax. Based on current annual exemptions, the first £12,000 could be tax free with normally a reduced rate of 10% or 20% applying to the excess gain that they make. This compares very favourably with non-EMI options where up to 47% tax/employees’ National Insurance Contributions can apply and with an employer’s National Insurance Contributions cost of 13.8% for the company.
Are there any disadvantages to EMIs?
There are qualifying conditions to be eligible for EMI, and these can be limit its operation. If there is any uncertainty about a company’s EMI eligibility, HMRC can be approached for pre-clearance.
Careful structuring is required to ensure that the EMI options and resultant shares are designed and implemented in a way that ensures that they meet commercial goals.
Although EMIs are flexible and with proper advice can be set up within a number of weeks, there are a number of EMI pitfalls to be aware of.
These can include failing to get an HRMC-agreed valuation when the options are granted and therefore falling liable to unexpected tax or failing to grant the options within the 90-day window given by HMRC. It can also be possible to overestimate share valuations, resulting in unnecessarily high buy-in costs for employees and/or tax liability. It’s also crucial to properly notify HMRC of the grant of an EMI option within 92 days to ensure its qualification for EMI benefits.
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