Shares and stock options
Employment law- Share and stock options
What are the the benefits of share schemes and stock options?
If you have a direct financial interest in your employer that goes beyond a basic salary, you will be more incentivised to make the business a success.
Larger companies can utilise the various schemes to attract high-quality staff, and for smaller employers or start-ups, they are a useful and potentially more rewarding financial recompense than unaffordable fixed salaries.
Some share schemes can also be more focused by being linked to individual or company-wide performance.
Those schemes which are approved by HM Revenue and Customs (HMRC) offer tax benefits to both employers and employees. These are often called either ‘approved’ or ‘statutory’ schemes.
Employees under these schemes will usually be taxed, and pay National Insurance Contributions (NIC) on the market value of any shares given to them by their employer, as if it was part of their earnings. If you pay in part for the shares, you will pay tax on the remaining gift element from your employer.
If you are given an option to acquire shares at a future date, then your tax liability will be deferred until the option is exercised (subject to time limits for the shares to be exercised), and the tax and NIC will be payable at that time.
What are the different types of “approved’ schemes?
There are four main types of approved scheme:
1. Share Incentive Plans (SIPs)
These offer generous tax and NIC advantages and with such schemes, every member of the workforce, including part-timers, is entitled to participate. Participants are awarded shares now (rather than being granted options that would entitle them to acquire shares in the future).
A SIP can comprise of either free shares, partnership shares, matching shares, and dividend shares.
Companies can choose to offer free shares and/or partnership shares (the latter of which are usually limited in number). In respect of partnership shares that you buy, your employer can decide whether to pay for additional shares to “match” those you have bought. Any dividends payable on the shares in the SIP can also be reinvested in further shares, known as dividend shares.
With a SIP, the shares are always acquired upfront (which is different to all other tax-advantaged share plans) and are held on your behalf in a trust.
Your share awards are free of income tax and NICs if they are held in the SIP for 3 to 5 years (depending on the type of shares) or if they are withdrawn from the plan early because the your employment ends as a “good leaver”.
2. Enterprise Management Incentive (EMI) schemes
These schemes are designed to help small, higher risk companies recruit and retain employees by offering them tax-beneficial share options. They are easy to implement and employers have a high level of flexibility in choosing how the terms of the options will operate.
Each option entitles the employee to acquire shares at a future date, at an agreed price at the date of the grant. If the value of the shares rises between the option and exercise dates, then you will clearly benefit. The grant by your employer can be made subject to individual performance targets.
The maximum amount you can hold as an EMI optionholder at the date of grant of the EMI option is £250,000. There are also a number of different qualifications that need to be satisfied, which include:
- your employer has to be a “qualifying company” (i.e. independent, less than 250 employees, trading for profit and less than £30m turnover).
- you must been in “employment”, and working at least 75% of your time with the company, and not hold a “material interest” in the company (not more than 30% of the ordinary share capital).
There is no tax chargeable in respect of the grant of an EMI option for either the employee or the employer, but there will be an income tax charge on an exercise of an option to acquire shares at less than their market value. The amount of tax will be levied on the gain – that being the amount by which the chargeable market value exceeds the amount paid for the option (if any).
3. Savings Related Share Option Schemes (SAYE or Save as You Earn schemes)
These tend to be set up by large, often listed, companies such as banks and other blue-chip companies.
The Scheme essentially has two elements:
- a savings arrangement.
- a share option.
With the savings arrangement element, this must be approved HMRC and will require you to save between £5 and £500 per month for 3 to 5 year, usually by way of deduction from your net salary. When you enter into a savings arrangement, you are granted SAYE options to acquire shares. The number of shares is calculated by reference to the expected proceeds of the savings arrangement (normally including any bonus) at the end of the three or five year savings period originally chosen.
You can then choose whether to use the proceeds of the savings arrangement to fund the exercise price of the option ( you cannot exercise the option using your own funds). If you choose at any time not to exercise the option, your savings will be paid back to you together with any bonus or interest payable. This therefore represents a risk free option for you, until the shares are acquired at which time – but a favourable tax treatment can still result.
A qualifying period of service may be imposed, but this cannot be more than five years.
4. Company Share Option Plans (CSOPs)
All employees can be offered the benefits of a CSOP, although in practice, it is usually senior staff and directors who are selected. You have no initial financial commitment or future obligation to exercise the option, so it is essentially “risk-free”
The maximum value of shares (valued at the date of grant of each option) that any one person can hold under unexercised CSOP options is £30,000. There is no limit to the total overall value of the options that can be granted.
A CSOP can specify that exercise can take place at any time (except more than 12 months after the death of the option holder). In order to maximise the beneficial tax treatment, however, the options should generally not be exercised before the third anniversary of grant (except where you leave employment for a “good leaver” reason). This has become standard market practice as the earliest exercise date.
The rules of the CSOP should specify a window period for exercise of the options and when the options will lapse. Usually, the rules provide that options will lapse when you leave employment, although early exercise may be permitted in certain defined “good leaver” circumstances, and in the event of a takeover, reconstruction or winding up of the company.