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Choosing the right employee shares scheme

A company’s decision on which employee share scheme to implement can impact its employees’ tax liabilities. Certain schemes offer tax advantages while others may be less costly to launch. It’s important to be aware of the tax implications of each scheme and take all matters into consideration when picking the right share scheme for your company.

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A share scheme may be attractive for various reasons. 

To attract and retain talent 

By offering employees the opportunity to acquire shares (ie options) in your company, you’re offering them a chance to share company ownership. This makes your job offer more attractive to prospective employees. 

Sharing ownership can foster a sense of loyalty amongst your employees. They may feel more involved in the success of your business and its mission hence they will likely stay with your business for longer periods.

To increase productivity amongst employees

Employees who are also shareholders can be more engaged in their work since they deem themselves to be responsible for the company’s value. This motivates them to work harder and innovate to increase revenue, reduce costs, or maximise profitability. 

To preserve cash within the company

Offering employees shares options as compensation or bonuses can relieve your company’s cash flow pressure. They may also be more attractive to employees due to the tax benefits attached. 

A share scheme may not be appropriate if you’re at an early stage of your business with only a few employees since it can be costly and time-consuming to set up. You may also have to consult accountants and lawyers in the process, thereby incurring further expenses. In this case, it may be more economical to directly issue shares to your employees. 

However, if you’re planning to expand your business quickly to eventually go public and have already secured investments, a share scheme may be suitable. This is because in order for a scheme to be effective, your employees must see your offer as advantageous. The prospect of floatation implies an opportunity for your employees to sell their shares to the public later to make a profit. Therefore, an offer to purchase the company’s shares at a predefined price may be seen as a bargain.

For information on how options differ from shares and why options may be more favourable, read Comparing share options with shares.

When picking a scheme, you should take these factors into consideration:

  1. your company’s eligibility for the schemes (eg a requirement for Enterprise Management Incentives (EMI) scheme is that the company must have less than 250 employees) 

  2. your target (eg whether you would like to issue options only to employees or to other staff as well eg consultants)

  3. the conditions, tax benefits and reporting requirements attached to HMRC-approved share schemes (eg HMRC must be informed within 92 days after an EMI option is granted)

  4. the costs associated with setting up and maintaining the scheme

When considering costs, you should be mindful that most schemes will carry on for a few years. The expenses of running a scheme will likely include legal and accountancy fees since you will have to submit forms to the HMRC and conduct valuations on the company as it grows.

An unapproved scheme offers employees a chance to purchase shares in the same way as approved share schemes, except no HMRC approval is required. 

The main advantage of using an USS is the flexibility it offers. Unlike the approved schemes, you have complete control over who to grant the unapproved options to. You’re also free to determine the conditions attached to exercising the options. There are no limits on the value of options issued, no reporting requirements and no predefined price needs to be set. 

With less regulatory requirements to meet, USSs tend to be relatively easy to implement. They are suitable for companies that can’t meet the criteria for approved schemes or those that are seeking to award a wider range of staff. 

However, USSs are less tax efficient for employees since they offer no tax relief or exemptions. Option holders will have to pay Income tax and National insurance contributions if the exercise price is lower than the market value of the shares. Generally, employees will sell some of their shares to meet the tax liability. In this instance, any gains they’ve made from the sale can be subject to Capital gains tax (without Entrepreneurs' relief). 

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