Why Should we have a share scheme?

Nick Wallis, Director, Tax Services To Business, Smith and Williamson:

Often it's going to be the case that small companies don't have access to cash to incentivise their key employees. As a result, the main asset that they have available will be their shares and often in set-up companies, these shares will have a low initial value. So it is often possible to award shares to individuals at a low initial price and therefore very tax efficiently.

What are the main tax issues?

When looking at the tax position for share awards, it is important to not only look at the position for the individual but look at the position for the company because there may be important tax implications for them as well. For most small companies, there won't be any issues for institutional shareholders to consider but there may be some issues you need to consult your substantial investors about. Apart from that, there should be full flexibility in what kind of scheme you introduce.

Should I introduce share awards or share options?

As far as share awards are concerned it is often possible to get shares into the hands of employees at an initial low value thereby minimising tax and they immediately feel part of the company. They may also get the opportunity to benefit at an early date for entrepreneurs relief for substantial share holdings of 5% or more. On the other hand, it can be quite a nuisance to have shareholders where there is no initial value for them and they will only see any value when there is an extra company. Contrary wise, share options are more flexible, the employee does not take a share until often, the very last moment. And he can be an overnight shareholder. This does mean that the initial founders of the company can run the business without reference to the option holder until the last possible moment. That can often be a very sensible arrangement.

A share award or a share option will give an employer the opportunity to build a stake in the company, to make him feel like he part owns the place and he will have a keen interest in growing the value of the company. However it is also important to ensure that the arrangements that we put in place are as tax efficient as possible. In this context we have to look at both the position of the individual and also of the employer. As far as the individual is concerned, we need to look at not only the income tax but also the capital gains tax.

Why is an EMI scheme beneficial for a start-up trading company?

Sarah Winter, Assistant Manager, Tax Services To Businesses, Smith and Williamson:

HM revenue and customs offer a number of approved share schemes. The main benefits of these is that they have a tax advantage. The most beneficial for a smaller start up company is something called the learners and enterprise management incentive scheme. An EMI scheme is very flexible. It's available to lots of trading companies, generally smaller trading companies with gross assets of less than 30 million pounds. You can offer values on shares of up to £120,000 and they can be any shares and you can put restrictions on those. In addition, there is no limit on when those options can be exercised. What makes this scheme even simpler is that there is no approval process with the revenue. It is often best to agree a market evaluation of those shares beforehand with the revenue but there is no formal approval process.

What is the main tax benefit over an EMI scheme?

If shares are granted at market value at the date of grant then when they're exercised, the value probably will have risen and there will be no income tax on the change between the market value at grant and the market value at exercise. When you do sell them, there will be capital gains tax on the difference between the price that you sell them and the price that you paid when you exercised your option. One of the main benefits of this scheme is that it is essentially providing employees with income tax free shares.

What is the company share ownership plan (CSOP)?

It is available to larger companies, there is no limit on how large the company can be. It can be available to any company so if there's an excluded trade which means you can't take part in EMI, a CSOP is also available. Now this is slightly more restrictive in that there is an approval process. So the scheme documents have to be sent off to the revenue before its put into place and that checks that everything's ok which can be a little more time consuming. There is also the need to get the shares valued. One of the other slight restrictions on the CSOP is that you can only have options over shares up to a value of £30,000 which is quite considerably less than an EMI scheme. To make sure there's no tax on exercise of the option, it must be exercised after three years and before ten years have lapsed.

Which is the best scheme?

Nick Wallis, Director, Tax Services To Business, Smith and Williamson:

Sometimes companies won't qualify either for CSOP or for the EMI scheme. Or they might want to make awards that are in excess of the limits that those schemes have. In that case, we then go on to design unapproved arrangements and these can be of share awards or of share options. There is full flexibility. At that stage the planning gets very interesting because there's any number of opportunities for the company to design the scheme that's appropriate for them.

To sum up, the most important thing is that companies should always design the scheme to suit their commercial needs and to incentivise employees. But that said, if they can use a tax advantage scheme then they should. Of those tax advantage schemes, there is little doubt that the best for small entrepreneurial companies is the EMI scheme.

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