Employee stock options also known as share options are a form of equity compensation for employees that grant employees the rights to buy shares in their employers' companies. Startups often grant stocks options to reward early stage employees. Businesses can set up Employee Share Schemes to grant share options to their employees. Small companies with gross assets of £30 million or less are able to set up an Enterprise Management Incentive (EMI) scheme which allows businesses to grant these share options tax efficiently. This short article explains what an EMI scheme is and how to set one up for your business.
What are share options?
A share option gives the option holder the right to buy an agreed number of company shares at an agreed exercise price when the share options vest. Share options vesting conditions can be time based or performance based but the tax treatment may vary depending on whether they are part of an HMRC approved company share option plan (CSOP) or not.
What is an enterprise management incentive scheme?
SME businesses with a permanent establishment in the UK, gross assets of £30 million or less, fewer than 250 full-time employees and carrying out a qualifying trade can set up enterprise management incentive (EMI) scheme and grant EMI ordinary share options. Companies that work in ‘excluded activities’ are not allowed to offer EMIs. Excluded activities include:
- property development
- provision of legal services
- ship building
Employers who meet the criteria will need to register their EMI scheme with HMRC before granting EMI options. Employers will also need EMI option rules and an EMI option agreement to grant the options. Due to the tax implications of EMI options, it is usually best practice for small businesses to pay a law firm for legal services with regards to preparing the scheme rules and option agreement.
A small business with an EMI scheme can still grant options to non employees but these share options will be treated as unapproved share options which won't have the same tax benefits as EMI options.
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What are the benefits of EMI share option schemes?
A share incentive scheme is a great way of giving company ownership to employees which can motivate them by allowing them to benefit in the upside of the early stage company's growth. An EMI scheme allows employees to obtain entrepreneurs' relief at the exercise of the options which means they will obtain some tax relief on their capital gains tax (CGT). Employees might need to pay income tax if the shares were granted at a discount of their actual market value. However, when employees are granted the tax-advantaged options, no income tax is owed until the options are exercised.
How to grant EMI share options to employees?
An employer may grant qualifying EMI share options up to a value of £250,000 per employee in a three-year period. The total market value of unexercised qualifying share options a company may grant under EMI cannot exceed £3 million. To grant EMI share options, an employer will first need to obtain the authorisation from the company directors to grant the options at an agreed price. The company will then need to write to HMRC to request the approval of the market value of the shares and exercise price for the specific grant of the options and this is done via a VAL231 form. Finally, you can grant the options to your employees after HMRC approves the exercise price. The employer then needs to submit an EMI notification to HMRC within 92 days of the date of grant which will inform HMRC which full-time employees received stock options and how many.
How do employees exercise the options?
When and how employees can exercise their EMI options will depend on the employer's specific EMI rules and the vesting conditions of their options. Once options have vested, employees can usually exercise their options if and when the employer company is bought by an acquirer or if they leave the company.
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The opinions on this page are for general information purposes only and do not constitute legal advice on which you should rely.