Giving shares to directors and employees

A company can issue shares to a director or employees. However, whenever you are giving shares to directors and employees you need to be aware of HMRC's taxing provisions for Employment Related Securities.

Giving shares to employees

What are employment related securities?

Whilst we've discussed giving shares to family members in a previous post herethe employment related securities rules are more relevant where you are giving shares to directors and employees who are not family members.  

The rules potentially apply to share options, shares and other types of security such as loan stock and bonds, whether convertible into something else or not. This post will focus on shares given to directors and employees. We'll cover share options in a separate post at a later date.

 The tax charge is triggered when securities are issued to prospective, current or former directors or employees of a company and apply to companies of all sizes. 

  Additionally, the following points should be considered:

  • If the director or employee pays the full market value for their shares there is potentially no Income Tax charge on the acquisition of their shares.
  • The rules apply to all shares awarded to directors and employees, regardless of whether the transaction is a new share issue or a transfer out of an existing shareholding.
  • If the shares have  no restrictions in terms of their transfer or in respect of other rights a further Income Tax charge may arise if any changes to the shares are made which increase their valuation. However it may be possible to mitigate a future income tax charge on any increase in value and this is discussed below.
  • When you are giving shares to directors or employees these transactions are potentially reportable to HMRC via their online PAYE portal.  However some transactions may be exempt from this reporting requirement although there are few exceptions.
  • Corporation Tax relief may be available to the company on making a share award. This is provided that shares are issued in a company that is not under the control of another.

How is the tax charge calculated?

Directors or employees are subject to Income Tax on the value of the shares awarded (less any amounts paid). They are taxed as earnings from employment. Therefore any tax liability will be payable at the individual's marginal rate of income tax.

Shares are valued on the money's worth principle at market value for Capital Gains Tax purposes. If they are considered to be readily convertible assets the taxable value of the shares will be subject to PAYE and reportable to HMRC accordingly.  

The situation is slightly more complicated where shares are awarded in  an unlisted private company. This is because the value is reported on an individual's tax return. It is therefore important to have a credible value of the company at the time of any shares are transferred.

Any income tax liability is payable under Self Assessment by 31 January following the tax year of the award. So for example a  tax liability on a share award made in the 2022/23 tax year would be due on 31 January 2024.

Shares with varying rights or restrictions

An additional Income Tax liability in certain situations where the rights attaching to a share vary and can change its market value. Examples of this are as follows:

  • When something is done to the shares that increases their value
  • When restrictions on the shares are modified or removed
  • When shares are subject to forfeiture provisions lasting five years or longer

In order to avoid a later tax charge, both the employer and employee may make a joint election. As a result of the election the director or employee will pay income tax on the market value of the shares without the restrictions in place. 

Whilst the election does not need to be submitted to HMRC  a copy needs to be held internally and must be made within 14 days of the date of acquisition of the shares.

Whilst making an election on acquisition may not be problematic for an employee working in a start up with a relatively low value, it could be an issue for an employee in an established business. The employee could be forced to pay  too much tax upfront when there is no subsequent increase in value of the company or be forced to sell the shares at par or less than the amount taxed upon the original acquisition.

It's possible to mitigate the effects of the Employment Related Securities legislation by the use of freezer shares or tax favoured share option schemes and we'll discuss this in  a separate article.

For more useful information, check out our Ebooks here.

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