Gifting shares to employees

When it comes to awarding or gifting shares to employees there is a wide choice and many options to explore. Our clients come to us to find the best path to follow.

To help you decide if we could help you we have set out some recent cases where we worked with employers seeking to incentivise their employees

We work with both employers and with individual employees or directors receiving the shares.

Gifting shares to an employee who was a director

Our clients, the founders of a fast growing company trading on-line, were considering gifting shares to one of its directors who had been instrumental to the Company’s growth. With an exit anticipated within a few years the Company wanted to retain the director in a competitive industry. EMI options could not be granted as the director did not satisfy the full time working requirements under the EMI option legislation.

The founders were happy for the director to receive dividends as part of his remuneration. They also wanted the director to fully enjoy the fruits of the Company’s success in the event of an exit. They were concerned however about the director leaving the Company and remaining a shareholder.

We explained the various choices available and in particular that different rights can be given to different shareholders.

Route decided upon for gifting shares to the employee

We concluded that the solution would be to design a new class of shares. These essentially had the right to receive dividends and to participate in the sale proceeds alongside other shareholders and investors on exit. But to address our clients’ concern we included compulsory transfer provisions on cessation of employment. This meant that should the director leave the Company before exit he would lose his shares.

We debated whether the director should be given voting rights. If the shares did not carry voting rights the director could not qualify for entrepreneurs’ relief. In the end our clients decided to provide shares for voting rights. This made the gift of shares more attractive in the hands of the director.

Working out the tax payable upon a gift of shares to an employee

We were asked to advise a fashion design label on the tax implications of gifting shares to new recruits.

When gifting shares to employees it pays for the employer to be aware of the tax issues arising. Uncertainty as to the tax position will probably defeat the object of incentivising the employee who will be worries about unexpected tax liabilities.

We explained the tax issues arising at the point of gifting the shares and then the point of disposal of the shares (sale).

Working out the taxable benefit on making the gift of shares

The basic rule is that on gifting shares an employee is deemed to have received a benefit in kind. Income tax and sometimes national insurance will then be payable. The amount of tax payable depends upon the value of the shares for tax purposes. We explained that the value of shares in private companies for tax purposes is not the same as the commercial value the shares may command.

We were asked to apply our judgement in arriving at the tax value of the shares. The company was using growth shares which produced a lower valuation than ordinary shares as the risk of not receiving reward was greater. If HMRC challenged the employee’s tax return and found the tax value to be higher than reported there would be interest and penalties payable by the employee.

Although this is the employee’s personal responsibility our client decided it best to have us guide the employee.

Securing CGT treatment on sale

When the employee then sells or transfers their shares the gain on such sale or transfer is taxed as capital. Capital gains tax will be payable at the applicable rate which is lower than income tax – 20% or lowered to 10% if entrepreneurs’ relief applies. In order to be certain of the position HMRC elections are required at the time of gift. The tax liability is on the employee. However our client like most employers wished to consider how to fund the tax due on the gift of shares. We explained that a bonus payment can be used to cover the tax liability. Bonus payments are subject to income tax and national insurance. We went through the process of grossing up the payment. The advantage is that the bonus payment is a deduction for corporation tax purposes.

HMRC reporting obligations

We also discussed HMRC reporting obligations. We advised that both employers and employees have reporting obligations on the gift of shares and the deadlines to do so.