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Guidance on Employee Shareholder Status Tax Legislation

From 1 September 2013 the new Employee Shareholder status became available which gives employees the opportunity to receive an award of shares with value of at least £2,000. On top of this there is an exemption from Capital Gains Tax (CGT) for the first £50,000 of shares sold.

One of the best incentives which can be offered to key staff in a private company is a shareholding in their employing company. However, this award of shares is made in return for the employee giving up certain employment rights, which may be seen by many as a fundamental weakness, as few employees would give up their basic employment rights in return for a few tax free shares.

1. Who is the employee shareholder scheme suitable for?

A company of any size is able to offer an employee shareholder contract to new or existing employees. This is however only relevant for employees and directors, not for shareholders who own more than 25% of the company.

To offer employee shareholder contracts, an employer must provide a written statement outlining the rights that are being sacrificed and a written statement providing details of the shares being offered (for example, whether they will have voting rights attached and whether they will carry a dividend).

2. Employee shareholder status rights

The rights that an employee will need to give up under the terms of an employee shareholder contract are:

  • unfair dismissal (compensation currently capped at £74,200)
  • statutory redundancy
  • flexible working requests
  • time off for training
  • Stricter maternity and other family rights (16 weeks’ notice of firm of return from maternity, paternity, additional paternity or adoption leave instead of usual 8)

It should be noted that an employee shareholder’s right to claim automatically unfair dismissal (for example in relation to health and safety issues or whistleblowing) or under the Equality Act 2010 for unlawful discrimination remains unaffected by this new legislation.

3. The shares

The shares must be fully paid. There is no limitation on the rights attaching to the shares used. It is possible for the company to create a special class of employees’ shares with restricted rights of transfer and an obligation to sell on leaving. The shares can also be structured as growth shares allowing the holder to benefit from a variable slice of value if certain targets are met.

The company needs to take care when drafting the share rights to ensure that when the shares are issued they have a restricted market value of £2,000.

4. Employee Shareholder Legal advice

Any employee that is offered an employee shareholder contract must be offered independent legal advice in relation to:

  • Which employment rights will be lost
  • The rights attached to the shares being offered
  • The distribution of any surplus assets
  • The redeemable value of the shares
  • Whether the shares can be sold

It is not permitted for advice to come from a lawyer who is connected to the company offering the shares. In addition to this, the company must meet the reasonable cost of the advice, regardless of whether the employee agrees to the shareholder contract or not. It should be noted that this will not be assessed as taxable benefit to the employee.

5. Income tax for employee shareholder

On receipt of the shares, no income tax or national insurance will be payable for the first £2,000 of awards. That is the employee will be treated as having given deemed consideration of £2,000. An immediate charge to income tax will however arise on any excess of value awarded above this.

There would also be a charge to National Insurance on any value above £2,000 if the shares were readily convertible assets.

The deemed consideration will not apply if the individual has a material interest of more than 25% in the company.

If the shares are restricted securities, the employee will normally be required to join in making an election under s 431 ITEPA which will increase the amount on which tax is payable upon acquisition of the shares. That is the income tax would be payable based on the unrestricted value and it would ensure that any future gain made on eventual disposal of the shares is liable to capital gains tax.

6. Capital gains tax

On disposal of the shares there will be a CGT exemption for the first £50,000 of shares sold.

Once an employee has acquired employee shareholder status with one employer company, they can subsequently acquire employee shareholder status with another unassociated employer company and be issued with further shares of up to £50,000 in that other company qualifying for the CGT exemption.

It is anticipated that many employees will be unwilling to abandon their employment rights, in return for shares. However, employee shareholder contracts may still be attractive in some circumstances and it is important for employers to consider whether the type of employees they wish to recruit to the company will be attracted by such an arrangement.

It should be noted that it will not be possible to force existing employees to become employee shareholders under this new initiative. Employers will however have the right to offer these contracts, with no alternative, to new hires, who will then have the right to a seven day cooling off period following acceptance of the contract.

Finally, let’s not forget about the Enterprise Management Incentive Scheme (EMI) which allows employees to acquire and exercise options in the company for which they work. This is a highly attractive and tax efficient share scheme whereby there is no upfront income tax exposure on the grant of EMI options. In addition to this when the shares are sold, in most cases they will qualify automatically for a reduced CGT rate of 10% irrespective of the size of the holding. (EMI helpsheet)

Read and download the help sheet.

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