UK: Share Schemes - New Plans For Old

Last Updated: 10 April 2000

The Government has announced that two new employee share schemes will be introduced in this year's Finance Act. The proposed new ESOP is trumpeted as the most tax advantageous share plan for all employees ever introduced in the UK. Enterprise Management Incentives are hailed as a tool to help Britain's small higher risk companies compete on a level playing field against their United States competitors and give us an advantage over other countries in the global market for talented people. Douglas Shugar examines what these schemes have to offer.

What is the ESOP?

This is the proposed new all employee share plan. ESOP stands for Employee Share Ownership Plans but the Inland Revenue would welcome any ideas for a better name. Many of you will already have ESOPs - i.e. employee benefit trusts with or without rules governing the distribution of shares to employees. In an effort to distinguish the new plan from these tax unapproved arrangements share scheme practitioners tack the word "Approved" on to the name. This turns it into an AESOP which allows us to make puns about how fabulous it is.

Very funny. So how good is this AESOP?

As long as the conditions are met the employee can potentially receive the shares from the AESOP and sell them without paying any tax at all. In addition the AESOP allows the employer to mix and match various alternative elements and design a plan which suits its own particular aims. So what are these alternatives? There are three:

  1. Free shares
  2. Partnership shares
  3. Matching shares

Free shares

An employee can be given up to £3,000 worth of free shares each year. These shares do not attract income tax or national insurance contributions when they are awarded even though they cost the employee nothing.

Partnership shares

An employee can buy up to £1,500 worth of partnership shares each year. The payment for these share will come from pre tax salary and the employee does not pay income tax or national insurance contributions on the amount he spends on these shares.

Matching shares

An employee can be given up to two free matching shares for each partnership share he buys. There is no minimum for the matching shares. So if an employer wants to match the 20% discount currently available through savings related share option schemes it could do so by offering one matching share for every four partnership shares purchased by the employee.

So how can these alternatives be mixed?

You can have any of the following:

  1. A Free Share plan
  2. A Partnership Share plan
  3. A combined Free Share and Partnership Share plan
  4. A combined Partnership Share and Matching Share plan
  5. A combined Free Share, Partnership Share and Matching Share plan

Are there any other useful features for the AESOP?

Yes. First, dividends can be reinvested in further shares which can be held in the AESOP and will not be taxed as the employee's income. Second the employer may choose to impose performance conditions on the Free Share element of the AESOP. This may be attractive for companies looking for a replacement for profit related pay schemes, but be warned - the legislation will guard against people who just want to do that rather than give employees a continuing stake in the company.

What are Enterprise Management Incentives?

In some ways these are quite a radical innovation for the Inland Revenue. You may be familiar with the traditional approach with Inland Revenue approved share schemes (which will also apply to the AESOP). We draft the rules, send them to the Inland Revenue to obtain informal clearance, adopt the rules when that comes through and then apply for formal approval. Only when that is given can you grant options or make awards. With EMI you can grant the options/awards and then tell the Inland Revenue (within 30 days). The Inland Revenue then have a year to tell you that the options/awards do not qualify for EMI status. If you hear nothing from the Inland Revenue within that year, then you automatically have a qualifying EMI.

What is the tax treatment of EMI?

Broadly there will:

  1. be no income tax or national insurance contributions on grant;
  2. normally be no income tax or national insurance contributions on exercise (if you use nil cost or discounted options then there may be an income tax charge and national insurance contributions when the option is exercised on the difference between market value at the date of grant and the price paid by the employee);
  3. be a capital gains tax charge on the sale of the shares. But the shares will qualify as business assets and so enjoy the more generous CGT taper relief AND that relief will be measured from the date of grant and not the date of exercise. This is extremely beneficial.

What are the limits?

The maximum value which any one employee can have under an EMI is £100,000. EMI awards can be made available to no more than 15 key employees. This gives a total of £1.5 million. EMI is only for small higher risk companies. How is that determined? The company must satisfy a host of conditions based on the rules for Venture Capital Trusts and the Enterprise Investment Scheme. Some key points are:

  1. Both quoted and unquoted companies may qualify.
  2. To qualify a company's gross assets must not exceed £15 million (ignoring the EMI awards).
  3. The company must be independent and not under the control of another company - so if a larger group establishes an e-commerce subsidiary with a view to floating it off later, the subsidiary could not use EMI to incentivise the management team to work towards the flotation.
  4. There are certain trading activities which disqualify a company - e.g. providing legal services (drat: foiled again!), banking, dealing in land and property development.

Is it true that these new plans will mean the abolition of the existing approved schemes?

Fortunately not. Profit Sharing Schemes will last until April 2002 and after that will have to be rolled into the new AESOP. Approved Sharesave Schemes and Company Share Option Plans will survive unaltered.

How can I find out more?

The Employment Pensions and Benefits Group will be holding a series of seminars later this year. For more information contact Suzanne Clark.

© MACFARLANES January 2000

This note is intended to provide general information about some recent and anticipated developments as of the date at the head of this note, which may be of interest. It is not intended to be comprehensive nor to provide any specific legal advice. It will not necessarily be updated and should not be acted or relied upon as doing so. Professional advice appropriate to the specific situation should always be obtained.

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