UK: No-Fault Dismissals Achieved By The Back Door?

Last Updated: 20 November 2012
Article by Kathryn Dooks and Michael Cashman

At the Conservative Party Conference, the Chancellor George Osborne announced plans for a new employment status: "employee-owner".

Employee-owners would be issued shares in the company they work for in exchange for waiving some of their UK employment rights. Any gain arising on a disposal of these shares would not be subject to capital gains tax.

The new employment status is aimed at helping fast-growing small and medium sized companies ("SMEs") to achieve a flexible workforce, which the government believes will promote growth amongst such companies and in the wider economy.

The new "employee-owner" status has many similarities with the concept of "no fault dismissals" for SMEs which was being floated by the Conservative party as part of its "Red Tape Challenge" following the Beecroft report, but which was blocked by the Liberal Democrats. In particular, the "employee-owner" status would enable SMEs to hire and fire staff at will by only paying statutory minimum notice (unless the contract provided for greater notice).

Implications of the new status

Under the new status, "employee-owners" would:

  • Be given between £2,000 - £50,000 of shares that are exempt from Capital Gains Tax;
  • Waive rights to:
    • Unfair dismissal;
    • Redundancy pay;
    • Right to request flexible working;
    • Time off for training; and
  • Be required to give 16 weeks' notice of return to work following maternity leave, rather than the usual 8 weeks.

Employee-owners would still be eligible for existing employee share ownership schemes such as the Enterprise Management Incentive. Income tax and national insurance would be payable on the initial transfer of the shares to the employee-owner.

The status would be optional for existing employees but both established companies and new start-ups would be able to choose to require new employees to enter into this type of contract (although employers will be able to insert more generous employment conditions into the contract if they wish to do so).

It will be interesting to see what procedures employers are required to go through when asking employees to take on this status and what information they are required to give to staff before they can sign up to the employee-owner status, particularly in light of the duty of trust and confidence owed by an employer to its staff. To date it has been notoriously difficult for employees to waive their rights (and illegal for employers to coerce their employees into waiving their rights).

This may well become a new battleground, in which employee-owners later turn around and say that the employer did not fully explain the implications of the new status at the outset and therefore they should not be bound by its consequences.

Effect of termination of employment

In the event that the employment is terminated either by the company or the employee-owner, the company would be required to buy back the shares at a "reasonable" price. The government will consult on how to achieve this.

Currently where an employee holds shares, if there are no provisions in the company's articles which require a compulsory transfer of the shares, there is no requirement on either the company to buy back the shares or on the employee to sell the shares on termination. If the shares are held in an unlisted private company, the employee is therefore stuck with the shares (and the company is stuck with the employee as a shareholder), unless they can agree a suitable price for the shares.

The proposed rules will permit a company to require the employee to transfer the shares, but only for a "reasonable price". It will be interesting to see if the new legislation sets out a valuation mechanism, otherwise there may well be an increase in disputes between employers and employee-owners about what is a "reasonable" price.

Likely take-up?

Whilst we welcome moves by the government to promote economic growth and flexibility for employers, especially within the SME community (many of whom are technology companies), we question the effectiveness of the plan and whether it will meet its intended goals.

We question whether this "employee-owner" status will genuinely promote growth. Removing employees' employment rights simply means they will be more concerned that they can be fired at will and therefore less likely to make large financial commitments, such as buying a new house or car. It may also have an impact on an individual's ability to obtain a mortgage or certain insurances.

Whilst the plan may provide SMEs with greater flexibility to hire and fire staff at will, there are numerous disadvantages and uncertainties for both companies and employee-owners including:

  • increased red tape for employers in order to achieve the "employee-owner" status;
  • commercially unattractive for a company to be giving away its shares;
  • only a small number of shares involved, so no real power for employee-owners and no true sense of employee-ownership;
  • uncertainty of return on a shareholding in a private company;
  • increased day-to-day insecurity for employee-owners, with no guarantee of additional reward (which could in turn drive a lack of confidence in the wider economy);
  • in unlisted, private companies, the employee-owner is unlikely to be able to sell the shares  unless they leave employment;
  • need for valuation of shares in unlisted companies;
  • disputes about what is a "reasonable" price for share buy-back;
  • the new status won't allow employers to avoid liability for dismissals which are discriminatory or which are unfair under EU-derived legislation, such as the Transfer of Undertakings (Protection of Employment) Regulations 2006 which give employees protection on the transfer of a business; and
  • shareholders already have a tax free CGT annual allowance of £10,600 per annum, which would shelter some or all of the gain. Any further exemption from CGT may therefore be irrelevant for small holdings.

In our view, as the new employee-owner status only involves a waiver of the right to bring an "ordinary" unfair dismissal claim and employee-owners may still claim that their dismissal was discriminatory or was made in connection with the transfer of a business (for example), this could well drive an increase in these types of claims instead, with employee-owners trying to "shoe-horn" their claims into these categories, thereby undermining the value of the employee-owner status for companies. 

The government launched a consultation paper on their proposals for implementation of the scheme on 18 October and legislation will be tabled later this year so that the new employee-owner status would be effective from April 2013.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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