Tax benefits of EMI share options

We've covered the implications of giving shares to director's and  employees previously and in this article, we're now going to focus on the tax benefits of EMI share options.

Tax benefits of EMI share options

What are EMI share options?

Enterprise Management Incentives or EMI's for short, are share option schemes designed for small and medium-sized companies. Because they have a number of tax advantages they can be a highly effective method of motivating and retaining key staff in your business.

Consequently, having an EMI share option scheme is ideal for a growing small/medium sized business or for a business owner planning an exit/retirement from their business. 

An EMI share option scheme works as follows:

  • Your employee is granted an option to acquire ordinary shares in your company. If your company is a qualifying subsidiary, the option is issued by the parent (the qualifying company). The market value of the shares under the option is fixed when the option is granted and HMRC notified accordingly.
  • Under the terms of the option agreement, your employee exercises their option acquiring shares at the exercise price. This price may be equal to or more than the market value of the shares when the option was granted or at a discount. Exercise of an option generally happens after either your employee has worked for a set number of years, your company is listed on a stock exchange, or it is or sold to a third party.

What are the tax benefits of EMI share options?

The use of an EMI share option scheme has the following tax advantages:

  • Provided the EMI share option qualifies, there is no income tax or National Insurance payable by your employee on the exercise of the EMI share option. Whereas the exercise of shares in an unapproved share option scheme is fully chargeable to tax and NIC.
  • A disposal of shares acquired via an EMI share option scheme will be subject to capital gains tax. Therefore any increase in value on their disposal will be subject to capital gains tax, as opposed to income tax rates. Additionally Business Asset Disposal Relief applies to EMI share options meaning your employees can potentially benefit from a 10% rate of CGT on any gains  realised on the disposal of their EMI qualifying shares.
  • Your company will receive a Corporation Tax deduction on the exercise of options granted under an EMI share option scheme, provided the relevant conditions are met. The Corporation tax relief is granted for the accounting period in which the EMI option is exercised. It is calculated on the difference between the market value of the EMI share option shares on the date of exercise and their exercise price.

Unsurprisingly, HMRC impose various conditions which need to be fulfilled in order to obtain the tax benefits of EMI share options. 

In view of this, we'll now cover the most prudent steps to take so you reduce the risk of any adverse tax consequences when you set up your EMI share option scheme

EMI share option schemes - practical considerations

The first step is to review whether your company carries out a qualifying trade. A company will not qualify for a EMI share option scheme if it carries out an excluded activity, for example legal or accountancy services and property development.

It may be possible to obtain further certainty by submitting an advance assurance to HMRC who will confirm your company's trading activities qualify, though not whether your proposed EMI share option scheme qualifies as a whole.

Once you've obtained advance assurance from HMRC it will then be a question of drafting and agreeing the terms of the EMI share options. These will set out vesting conditions and any restrictions that might apply and we'll revisit this point at a later date.

At the same time, you'll then need to draft and agree the scheme rules and make the necessary changes to your company's Articles.

Compliance with HMRC

Once any amendments to your company's articles have been made and you've passed the necessary company resolutions, it is prudent to agree a share valuation for the EMI share options with HMRC. This can be done by submitting the form VAL231 to them.

When your company's share valuation has been agreed with HMRC, you should then pass resolutions to issue the shares and adopt new articles for your company, the latter of which should be filed at Companies House. 

Having confirmed the terms of the EMI share option scheme the EMI share options will then be granted. At the same time, you should ensure your employee(s) meet the working time requirement.

You'll then need to notify HMRC of the grant of the EMI share options. This must be done within 92 days of the date of the grant of the relevant EMI share options. Failure to do so could result in financial penalties being imposed.

Finally, there will be an ongoing requirement by your company to submit a share scheme return to HMRC annually. Once again, HMRC could impose penalties if these are not submitted on a timely basis.

This article should be regarded as an overview of EMI share option schemes. There are a number of conditions that need to be fulfilled to ensure that an EMI share option scheme qualifies initially and on an ongoing basis. We will be covering these conditions (and the potential pitfalls) in more detail at a later date.

For more useful information, check out our Ebooks here.

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