Before May’s election, many businesses were uncertain about whether they would pursue shareholder status for key employees. Now, observes Tracy Henson of accountancy firm Barnett & Turner, there’s a definite flurry of interest. One initiative of the Coalition government back in 2013 was the introduction of ‘employee shareholder status’ or ESS. With Labour signalling that it was likely to scrap the provision – which allows staff to trade employment rights for equity – there was relatively little take-up. But with the election of a majority Conservative government in May 2015, companies now have a reasonable degree of certainty that the policy is here to stay.
The essential idea is that a business owner may want to tie in employees by giving them shares. The new regime allows employers to do this in a tax advantageous manner.
For example, you might want to reward a particularly impressive Finance Director and ensure that she stays for the long term. You issue new shares to her and she pays nothing for them, as the ‘consideration’ in legal terms is created by giving up certain employment rights (see below).
These shares must be worth a minimum of £2,000. If that’s all you choose to offer, no income tax is payable by the recipient, although if you offer more, tax is due straight away on the amount above the £2,000 threshold. (While this charge obviously belongs to the individual, it’s perfectly legitimate to offer a bonus that would help to compensate the employee for the upfront bill.)
If the amount you offer is worth more than £50,000, there are restrictions on the tax advantages. There is no tax on sale at exit up to this cap, but if the shares were worth, say, £100k when they were first offered, only half would be tax free on disposal.
Although valuation is obviously a very difficult issue in many businesses, it is possible to agree figures with HMRC up front to avoid any potential dispute. It’s important to work closely with your accountants, who will be able to make the calculations – there is a prescriptive process to go through with HMRC in order to get this agreed.
A tax-free exit can seem very appealing and the owner may be looking to part with fewer shares than they would otherwise have to. It’s worth bearing in mind that entrepreneurs’ relief only applies if someone has 5% of the company, whereas under ESS they can have a smaller % and pay 0% on an exit, not 10% under entrepreneurs’ relief.
What rights does an employee give up as ‘consideration’ for shares?
- Unfair dismissal rights (unless the dismissal is related to discrimination or health and safety)
- Statutory redundancy pay
- The statutory right to request flexible working (with the exception of the two weeks after return from parental leave)
- Certain statutory rights to request time off to train
Other rights, including statutory sick pay, paid annual leave and maternity/paternity leave, remain in place.
So it’s not for everyone, and clearly as an employer you are giving away equity if you do this, but one advantage of ESS is that it is very flexible and there are not the restrictions over which type of company can do this, which there are with a number of other tax favoured schemes such as the enterprise management incentive scheme.
If you would like to discuss anything related to this article please do not hesitate to call Barnett & Turner on 01623 659659 or email Jonathan at jwilson@barnettandturner.co.uk