Employee share ownership schemes have long been recognised as an effective mechanism for rewarding, incentivising and retaining team members. The Government have developed a number of share schemes that offer beneficial tax treatment to encourage businesses to offer these incentives to their staff.
The Enterprise Management Incentive (EMI) is one of the best-known and most attractive options in this space. The EMI is a tax-efficient share option scheme aimed at businesses with assets of £30 million or less. It is well-suited to smaller, entrepreneurial companies that might not be able to offer the attractive salaries of the bigger employers.
There’s currently a feeling that EMIs have been under-utilised amongst the business community and, as a result, they’re being promoted by the Government, who are keen to demonstrate the benefits to businesses and how tax-efficient they can be for both the company and the individual.
How do EMI options work?
Like most share option schemes, the EMI gives employees the right to acquire shares in a company, according to the terms set out in an option agreement. These terms will indicate how many shares an employee can acquire, how much the shares will cost, and when they can be obtained by exercising the option. This may occur, for example, after a set period of employment with the company; when the employee reaches certain performance targets; or when the company is sold.
From a business’ perspective, EMIs provide a way for companies to attract high-calibre employees by offering them equity participation in the business. As well as the capacity for rewarding and incentivising staff, the EMI can be an effective mechanism for driving the right behaviours and performance and retaining key team members, and can form the backbone of a sensible succession plan. We recently helped a client to put an EMI scheme in place with these goals in mind.
EMIs, where used for management teams as in the above case, can help ensure that they are still in the business at the point at which the owners wish to exit. This helps drive the business to the point of the relevant exit event and can therefore be helpful in ensuring continuity post-exit and alignment of objectives between the business founder and the management team.
What’s more, the employer can also make the share options ‘exit only’ if they choose, which means that the share options are exercisable only immediately prior to a sale or a listing of the Company. The benefit of this for the business is that there is no dilution of share capital or loss of voting control prior to a sale event.
If they also allow for ‘cashless exercise’ of the share options out of the sale proceeds to be received, this means the employees only have to pay for the shares when they have access to the sale proceeds. It solves any problem of cashflow for the employees because it is designed to enable them to exercise their options even if they do not have the resources to buy the shares upfront.
Tax benefits
EMIs also offer significant tax benefits to the business and the employee. For the employee, when they exercise their share option, providing it was granted at market value, there is usually no Income Tax to pay. If the shares have increased in value between when they were granted and exercised, this increase is not subject to Income Tax either.
When the employee comes to dispose of their shares, they will be subject to Capital Gains Tax (CGT) on any growth in value since acquiring the shares. However, this will qualify for Entrepreneur’s Relief, reducing the tax rate from 20% to 10% on the proceeds.
For the business, when qualifying shares are acquired by employees upon the exercise of an EMI option, the company gets a corporation tax (CT) deduction. This deduction matches the difference between the market value when the shares are acquired and the amount that the employee pays for them. More information on this can be found on the Government’s website.
Flexibility
In addition to all the above benefits, it’s also worth remembering that EMIs are flexible and can be designed to suit the individual needs and circumstances of the business.
For example, companies can create different pools of option shares, each with distinct share rights and exercise and vesting conditions. They can set individual employee KPIs for the vesting of options and/or have the options vesting over a certain set time period. This allows a certain amount of tailoring according to individual business requirements and enables companies to set specific goals or strive for desired levels of performance and behaviour both for the business and its individual employees.
If you’re thinking about offering an Enterprise Management Incentive scheme to your employees, get in touch if you would like to talk through your requirements.
