EMI scheme: enterprise management incentives
- Helen Curtis
- Updated: Thu, 16th Feb 2017
If you are thinking of awarding equity to staff the starting point is always an EMI scheme. EMI options are versatile, tax efficient and hence popular. The Government continues to support the EMI scheme, recently adding additional tax savings.
Our EMI scheme services include:
- Selecting the EMI scheme?
- Clarifying the eligibility of companies to implement the EMI scheme
- Clarifying the eligibility of employees for EMI scheme purposes
- Solutions for those who may not be eligible for an EMI scheme
- Taxation under the EMI scheme
- Valuing shares for tax purposes used in an EMI scheme
- Successfully implementing an EMI scheme
- Implementing EMI schemes for overseas companies
- Track record
Selecting the EMI scheme?
Studies show that companies offering the EMI scheme outperform those that do not. Equity incentives boost employee motivation due to EMI scheme’s key advantages which we outline below.
EMI scheme is discretionary
The EMI scheme is discretionary. This means that employers are not required to offer EMI options on equal terms to every employee or director. This makes EMI schemes very flexible.
EMI scheme is tax efficient
EMI options are tax efficient. Employers can claim corporation tax relief. Subject to limited exceptions, the effective tax rate for employees is 10% if they hold EMI options for one year.
Fast growth companies
Many companies seek an exit within 5 to 10 years. EMI schemes are attractive for high growth companies as they can be designed to fit most exit objectives.
EMI options can supplement salary
There is a skills shortage, yet the pressure to limit expenses remains intense. An EMI scheme enables employers to supplement pay with share benefits. Employers who do not offer options alongside pay and bonuses often discover their staff joining competitors.
EMI scheme can be free for employees
EMI options can be awarded at “nil cost”. Nil-cost means employees pay nothing to exercise and acquire the options.
EMI schemes are investor-friendly
Professional investors understand EMI options under an EMI option scheme, and often expect senior management teams to be motivated with EMI options. Usually, investors agree to dilute their investments to free up shares for employees.
Employees lose nothing with EMI scheme
Employees should view EMI options as a one-way bet, since they aren’t forced to exercise the options. Lapsing does not trigger any cost for the employee.
EMI options and the SEIS or EIS scheme
An EMI scheme can run in tandem with the SEIS/EIS schemes. Apart from the fact that EMI is designed to reward employers and SEIS/EIS designed to reward investors the qualifying trading conditions are fairly similar.
Clarifying the eligibility of companies to implement the EMI scheme
In order for your employees to benefit from EMI tax relief under the EMI scheme both the company granting the options and the employee receiving an option must qualify.
The rules are detailed but we set out a simplified snap shot for you. There are always grey areas but we tackle these for you.
Overall limit on awards under an EMI scheme
Any “qualifying” company can grant EMI options under the EMI scheme for shares valued up to £3 million. The calculation is performed at the date of grant of an EMI option and is not re-calculated during the life of the EMI option.
Corporate structure requirement for EMI schemes
- The company must not be under the control of another company. Any subsidiaries must be 51% controlled.
- Only companies employing fewer than 250 full time equivalents can offer EMI options. Part-time employees count proportionately.
- The company must trade wholly or mainly in the UK.
- Gross assets must be less than £30 million.
HMRC do not place any limit on dilution providing that the limit on value is not exceeded. However, dilution is an important area to review from a shareholder protection aspect.
The company can be quoted or unquoted.
Qualifying trades for EMI schemes
Some trades do not qualify for EMI tax relief, including:
- Land dealing
- Property companies
A combination of trading and non-trading activities may not preclude eligibility. It is a matter of fact and degree which we can deal with for you based on past experience.
EMI options and a foreign parent company
Foreign parent companies can implement an EMI scheme providing that the group qualifies.
EMI options and partnerships
Partnerships are not companies so they do not qualify for EMI options under the EMI option scheme. There are ways to incentivise partners of LLPs and partnerships which can be used in place of shares.
Clarifying the eligibility of employees for EMI scheme purposes
The EMI option scheme is a one way bet for an employee: if the company goes down all they lose is the exercise price, if the company does well they get the uplift, tax efficiently.
When the employee will qualify
Any “qualifying employee” can receive up to £250,000 worth of the EMI options provided that:
- The employee and their associates do not control a material interest;
- The employee meets the working time requirement;
- The employee did not receive shares or options under a different share or share option plan which would take him over the limit;
- The shares under the EMI option are non-redeemable, fully paid up ordinary shares;
- The options are exercised within 10 years of the grant date;
- No disqualifying event occurs before the exercise or the EMI options are exercised within 90 days of the disqualifying event.
EMI working time requirement
The working time requirement means that both employees and directors are eligible for EMI options if they are employed by the company or group for:
- At least 25 hours per week;
- If less, for at least 75% of their working time.
Full or part-time directors can satisfy this working time requirement. Often the board of directors holds EMI options.
Solutions for those who may not be eligible for an EMI scheme
We do look to find solutions for companies who are unable to grant EMI options for a variety of reasons. Based on our experience, typical problem areas tend to revolve around:
Corporate structural problems – EMI scheme
We tend to find that businesses with external investors in the form of trusts and finance vehicles may not pass the corporate structural requirements of the EMI scheme legislation. In such cases there could be scope for a re-structure which we can advise on or other equity schemes which are better suited.
Number of staff
In other cases the business may fail because it employs too many staff. In these cases we can look at other types of share and option plans common in the UK.
EMI options in a subsidiary company
EMI options cannot be granted over subsidiary companies. It is however, perfectly possible to reward employees of a subsidiary company with shares held in the holding company.
EMI options and variation of terms of the EMI scheme
A variation to the terms of the EMI option scheme can be a disqualifying event which restricts EMI advantages, depending on the circumstances. We tell you what changes to the EMI option scheme work and which will reduce tax advantages.
Consultants and non-executive directors
Unless an employee is fully committed to the business on full-time basis or it is his main part time job and the employee does not have a substantial holding in the business already, he may not qualify for the EMI option scheme. This requirement can rule out consultants and non-executive directors but there are often alternatives.
EMI options and employees connected with shareholders
An employee or a director is unlikely to qualify for the EMI option scheme if his family or business partners have a stake in the company. If an employee and his associates together control 30% or more in the company, they will have a material interest and will not qualify for EMI options. We look at the company structure in advance of the EMI share option grant and suggest changes to the structure to fit the EMI share scheme requirements. If a new structure is needed we put it in place.
Taxation of EMI options under EMI schemes
EMI share options under an EMI option scheme are tax efficient for employees and employers.
Corporation tax savings can be substantial if the shares under EMI option gain value. Companies providing employees with EMI options can also deduct the set-up and administration costs from their taxable profits.
EMI options granted under EMI schemes are very tax attractive for employees. The benefits far out strip unapproved options which is one of reasons why EMI options are so popular.
Entrepreneurs’ relief under EMI schemes
Entrepreneurs’ relief applies when the employee holds shares acquired under an EMI scheme, if they held the qualifying EMI options for over 1 year. The size of the shareholding under the EMI option does not matter, neither does the fact that the employee did not hold actual shares for a year.
Entrepreneurs’ relief of EMI option shares vs ordinary shares
EMI option holders are in a better position than ordinary shareholders who did not acquire shares though an EMI scheme:
- Ordinary shareholder must hold over 5% of the ordinary voting share capital for over 1 year.
- EMI option holders who sell shares are eligible for:
- The annual capital gains tax exemption;
- Entrepreneurs’ relief, if they qualify, on any gain over the annual capital gains tax allowance which is taxed at 10%, not the typical 20% capital gains tax rate.
Taxation of EMI options vs unapproved share options
When exercising unapproved options, employees usually miss out on the advantageous capital gains tax and entrepreneurs’ relief compared to EMI options under an EMI share scheme.
Valuing shares for tax purposes used in the EMI scheme purposes
Putting shares under an EMI option scheme requires a share valuation of shares under the EMI option. The valuation affects the tax position so it is an integral part of an EMI option under the EMI option scheme.
Successfully implementing an EMI scheme
It is easy to make a mistake. Generally mistakes mean that you have:
- Disgruntled employees who do not receive the tax relief expected; and or
- Disgruntled shareholders who suffer more dilution on the share issued upon exercise of EMI options under the EMI scheme than was anticipated; and/or
- Shareholders who have exercised EMI options but refuse to join in a sale of the business approved by the majority.
EMI scheme employee communications
If you fail to communicate the rules of the EMI scheme adequately the EMI options may be disqualified from EMI advantages.
A written agreement between the company and employee/director must cover each EMI option grant. The EMI option agreement should specify:
- Date of the grant
- That the shares were granted under the EMI scheme
- Number, or maximum number of shares, under the EMI option
- Market value of shares on the date of the grant
- Exercise price
- When and how the option is to be exercised
- Restrictions or conditions attached to the shares
- Performance requirements
Employee communication is an often over looked but important area. After all, there is no point granting EMI options under the EMI scheme if employees do not understand the deal.
Implementing mixed share option plans
There are many reasons why a company may use a mix of approved an unapproved share option plans. For example, the company has non-executive directors who do not qualify for EMI and who will receive unapproved options whilst other qualifying employees will maximise the EMI advantage.
We will draft and implement EMI schemes which permit the use of unapproved options as well as approved options.
Implementing EMI schemes for overseas companies
International companies with operations in the UK can implement an EMI scheme as a part of an international share plan. This is usually done via a so called sub-plan. We adapt share plans of overseas companies to incentivise UK employees and adopt foreign shares plans to comply with UK laws.
EMI scheme track record
We have the experience of knowing what type of EMI scheme design is likely to work for you. For example, we do recommend share capital tables are prepared and considered so that you know how the dilution on issue of EMI options under the EMI scheme will work out. It can often be the small tips like that which turn your EMI scheme into a success.
Recently we acted on the following EMI option scheme matters:
- Designed and implemented an EMI option scheme for a mobile communications company looking to retain two key software developers;
- Prepared a UK arm of a multinational share option scheme over the shares of a Jersey based parent company;
- Carried out a share valuation for the purposes of EMI share option grant for an online estate agent company;
- Drafted an EMI share option plan for a food PR agency looking to increase employee retention rate;
- Advised on the EMI option scheme eligibility of a CEO of a food chain company who also worked as a consultant in other businesses;
- Implemented an EMI option scheme for the old management following an acquisition of a franchise outlet.
Enterprise management incentive schemes and EMI options can be effective and tax efficient. EMI schemes are known as the currency of choice amongst employee incentives. We are happy to talk over your ideas with you.
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