EMI share options – 2021 Budget Update
2021 Budget Update: In the 3 March 2021 budget the Government announced a review of the EMI scheme aimed at ensuring the scheme provides the right support for high-growth companies, and to review whether EMI options should be extended to a wider range of companies. There is a suggestion that the Government may look at the current restriction which precludes companies with more than 250 employees from granting EMI options. In addition the protections for EMI option holders who cease to meet the working time requirements by reason of being furloughed will be extended to 5 April 2022. The protections were originally intended to last until 5 April 2021.
What are Enterprise Management Incentive (“EMI”) share option schemes?
Enterprise Management Incentive (“EMI”) share option schemes have always been popular with employers and employees as a tax-efficient way for employees to share in the growth in value of the company for which they work. They are becoming even more popular in these difficult times, as employers seek non-cash routes to remunerate or incentivise staff. However, the rules governing EMI schemes are precise and a failure to comply will cause any options granted to be non-qualifying, with costly implications.
Under normal circumstances, if an employee acquires shares in her employer company and does not pay market value for those shares, income tax and national insurance contributions (“NICs”) will be charged on the difference between the market value of and the price paid for the shares. The employer will usually have to account for the tax and NICs through PAYE.
Let’s say an employee is granted an option to acquire 100 shares in the company, exerciseable on a sale of the company. The price she must pay for the shares is their market value on the date the option is granted - £5 per share. The company is sold a few years later and the buyer pays £10 per share, so the employee exercises her option, acquires 100 shares for £5 each (£500 total) and immediately sells them to the buyer for £10 each (£1,000 total). If the option is unapproved, income tax and NICs will be payable on £500, being the difference between the price she paid for the shares and their market value on the date of acquisition. If the option is an EMI option, she will pay no income tax or NICs on the acquisition of the shares and instead will pay capital gains tax on the £500 gain she makes on the disposal of the shares (a lower rate than income tax). She may also benefit from Entrepreneur’s Relief to further reduce the amount of tax payable and the company will receive a corporation tax deduction when the EMI option is exercised.
Does my company qualify for EMI Treatment?
The benefits of EMI treatment are clear, but not all companies will qualify, nor will all employees. There are many criteria to be checked, but key requirements are:
- the company must not be a 51% subsidiary or otherwise under the control of another company;
- the company must not have any subsidiaries that are not “qualifying” subsidiaries;
- the company’s gross assets must not exceed £30 million;
- the company must have fewer than the equivalent of 250 full-time employees;
- the company must carry on a qualifying trade;
- the employee must spend at least 25 hours per week, or at least 75% of their working time, working for the company;
- the employee must not have a material interest in the company;
- the options must be notified to HMRC within 92 days of the date of grant.
Problems often arise because circumstances change and the options granted are not reviewed regularly. For example, an employee who met the working time requirement at the date of grant may have reduced her hours; this would be a disqualifying event and she would no longer benefit from the EMI treatment. Or a company that met the criteria when it implemented its first EMI scheme does not check again before implementing its second scheme and, in the interim, it has acquired investments or non-qualifying subsidiaries that mean it is no longer eligible for EMI. Even failing to notify the options within the 92 day time limit will cause them to lose EMI status.
Often these problems will come to light during due diligence on a sale of the company. By that time, it will be too late to minimise the damage and it can prove very costly for both the sellers and the option holders.
If you are thinking of introducing an EMI option scheme, here are some points to consider:
- Does the company qualify?
- Do the relevant employees qualify?
- What is the current market value of the shares?
- Should the options be exerciseable only on a sale of the company, or after a fixed period of time, or on satisfaction of certain conditions?
- Will vesting of the options be subject to any performance criteria?