Employee Equity Incentive Schemes
Both tax-approved and unapproved share incentive schemes remain very popular ways for employers to recruit, retain and motivate their staff. Where an individual acquires shares in their employing company and pays less than market value for them an income tax charge is likely to arise. Although the award of share options may not have immediate tax consequences, in order to obtain favourable tax treatment the option exercise price must not be set materially below market value.
As a result, it will often be necessary to agree the value of unquoted shares with HMRC in connection with employee incentive arrangements such as share awards or the grant of EMI or other tax-approved options to managers and other staff.
There are different types of unapproved scheme with numerous variations, and often these are intended to allow employees to acquire shares cheaply without incurring an upfront tax charge. They may involve complicated capital rights, growth shares, put options or some form of joint ownership and may also use shares with a miniscule nominal value of less than a penny.
Particularly where an exit is a short or medium term objective, the risk is that HMRC will see much more value in the shares than was anticipated when the scheme was being designed. If so, both employers and employees could find themselves facing a large retrospective tax liability should HMRC consider that the price paid for their shares was below market value when they were acquired.
There is generally less at stake on tax-approved schemes involving unquoted shares, such as CSOP, SAYE or EMI, and these give fewer problems. However, it will usually still be necessary to agree market value with HMRC.
We are able to give reliable valuation advice to assist in a wide variety of employee share incentive situations including the following:
- direct awards of shares to employees
- awards under phantom or virtual share schemes
- tax-approved option schemes such as EMI, CSOP etc.
- performance related share awards and long term incentive plans
- annual valuations for internal share sales or shareholder exits
- IFRS2/FRS20 accounting valuations of equity-based awards
How we can help
We are often asked by the employee benefits departments of law firms on behalf of client companies to assist in the design/pre-implementation phase of a proposed share scheme. Many of these cases involve complex schemes using growth shares or some form of joint ownership between the employee and a third party, such as an employee benefit trust. Our advice in these situations usually focuses on the value likely to be placed on the shares or options by SAV, and in particular whether the draft share rights will achieve the company’s valuation aims.
We also work with private companies who approach us directly for advice in connection with the valuation aspects of their employee incentive schemes. Our role depends on the stage the scheme has reached and the client’s specific situation. We can assist with:
- preliminary valuation advice before a scheme is put in place which can prevent potentially costly mistakes from being made
- advice on the ‘best estimate’ of value for operating PAYE following an award of shares
- preparing a formal valuation report to be used should HMRC query the pricing basis on which the awards were made
- negotiations with SAV to agree market value
HOW WE HELP
Need to settle a dispute over the value of a shareholding?
How much is your company worth?
Selling a minority shareholding. What is it worth?
Incorporating your sole trader business? What is the goodwill worth and what value will HMRC accept for tax purposes?
Making awards under a Management Incentive Plan? What is the value of the MIP shares for tax purposes?
Negotiations with HMRC at an impasse? Need a new perspective?
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Possibly one of the most neglected and common areas of Pay As You Earn (“PAYE”) failure is where shares are sold by employees or ex-employees – disposals of employment-related shares.
Where not all conditions of the MoU are satisfied – is it possible to put some reliance on the principles of the MoU? If the ‘spirit’ of the MoU is satisfied, can management rely on it?
Following the introduction of the employment-related securities legislation in the Finance Act 2003, there was significant uncertainty in relation to the tax implications for management acquiring shares in venture capital (“VC”) and private equity (“PE”) backed companies.