An Enterprise Management Incentive (EMI) option is a tax-advantaged share option designed to help qualifying small and medium-sized businesses attract, retain and incentivise talent by offering them a chance to participate in the business's long-term success.
What is an EMI option?
EMI options are a right to acquire shares in the company at a set price (the "exercise price"). The EMI option can be designed so that the employee can only choose to "exercise" the option and acquire the shares upon certain "vesting" conditions being achieved, which could include specified time or performance based targets and/or the occurrence of an exit event. The terms can be set to reflect the company's commercial objectives.
Unlike some other tax-advantaged share schemes, companies also have the flexibility to choose which of their employees can participate in the EMI scheme.
What are the tax advantages of EMI options?
EMI options can provide significant tax benefits for both participating companies and employees.
- On grant: no income tax or National Insurance contributions (NICs) arise.
- On exercise: If the exercise price is at least equal to the market value of the shares at the date of grant, then (in most cases) no income tax or NICs will be payable. However, if the exercise price is set below that market value, the difference is subject to income tax (and possibly NICs) at exercise.
- On sale of the shares: Gains made at sale are generally subject to Capital Gains Tax (CGT), a more favourable rate for employees than income tax. In addition, the conditions for Business Asset Disposal Relief (BADR) are relaxed under the EMI rules meaning that the employee may also be able to benefit from a reduced rate of CGT on their first £1m of relevant lifetime gains.
The company operating the EMI scheme may be eligible for corporation tax deductions relating to the scheme's operation and the exercise of options by its employees.
What are the conditions to grant EMI options?
Broadly, in order for a company to qualify for an EMI scheme, it must meet the following criteria:
- Employ fewer than 250 full-time equivalent employees at the time of granting the options, either as a single company or a group
- Have gross assets of £30 million or less, either as a single company or a group
- Be a trading company, or the parent company of a trading group, and not be involved in an "excluded" sector such as banking or property development
- Be independent and not controlled by another company
- Have a UK permanent establishment within the group
As for individualemployees, they must work at least 25 hours a week for the granting company (or, if less, at least 75% of their total working time). An individual (or their "associates") cannot hold more than 30% of the company's shares at the time of grant, and the total market value of options granted under EMI to any one individual cannot exceed £250,000 at the time of grant. There is also a company-wide cap, meaning that the total value of shares under EMI options cannot exceed £3 million, calculated at the market value of those shares when the options were granted.
If, at any point during the life of the option, the company or the employee ceases to meet certain of the qualifying conditions (including if the employee leaves the company), the EMI tax advantages can be lost from that point onwards. However, if the employee exercises the option within 90 days of that disqualifying event, the favourable treatment often remains for the gain accrued up to the date of the disqualifying event.
Additionally, the shares and options themselves must meet certain requirements. For example, the EMI option must:
- Be capable of being exercised, or its vesting conditions may be fulfilled, within ten years of the date of grant
- Be granted under a written agreement which contains certain fundamental details of the option
- Not be transferable
- Be notified to HMRC by 6 July following the end of the tax year in which it is granted
The eligibility criteria for EMI options is detailed and companies will need to review the full criteria to determine whether it is met in any particular case. However it is possible to approach HMRC to for confirmation that the company meets the conditions to be able to grant EMI options. Companies are generally advised to seek professional advice when assessing the viability of an EMI option scheme.
How is an EMI option scheme set up?
Eligibility: Check the company and employees meet the EMI qualifying conditions.
Design: Determine the key terms of the scheme, including option pool, participants, vesting conditions and leaver treatment.
Valuation: Prepare a valuation for the option shares and submit to HMRC for approval.
Draft: While awaiting HMRC's approval (which typically takes 2-4 weeks), draft the option documentation.
Grant: Once hte valuation approval is received. grant the options within 90 days of the date of the approval.
Reporting: By 6 July following the tax year of grant, register the EMI scheme with HMRC, notify the grants and submit an annual return.
Are there any alternatives?
If the company or employees do not qualify for an EMI scheme, or if an EMI scheme is not the most suitable mechanism for achieving your desired commercial objectives, a variety of other share incentive arrangements are available.
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.
