Growth without the pain

There has never been a better time to use shares to attract employees

With many businesses sadly folding for those who survive, the time maybe ripe to secure those key hires and go for it.

How do you do this when cash is tight?  Using shares  may be the answer and keeps salary costs down.  And HMRC knows that company values are depressed meaning any tax payable on award will be lower than in boom times.

So let’s look at a couple of examples:

Boris runs a small but fast paced manufacturing company which has really taken off since diversifying into pharmaceutical equipment.  Whilst business is steadily increasing, the fixed costs of the parts required are stretching cash reserves.  What can he do?

Boris’s parents Donald T and Ursula VDL are prepared to inject some much needed capital but want a return.   

Growth Shares are a possibility.

Growth Shares can be designed to have little or no value when they were given to Boris’s parents but they will grow in value as the business of the Company grows.  Then, when there is a sale of the Company, Boris’s parents will be able to share in the growth in value which will provide them with the return they are looking for.  Boris does not have to employ them and he can limit their rights as shareholders.  Growth Shares are popular with silent investors as they deliver a neat way of enjoying the benefits without the pain.

When the business is sold off, the gains will be taxed at only 10% if Business Asset Disposal Relief (which is the new name for Entrepreneurs’ Relief) applies.  But if Donald and Ursula are silent investors not working in the business the rate of CGT will be 20%.   (This is assuming Rishi doesn’t increase CGT rates in the Budget 2021 – something Boris will be keeping an eye on!!).

Care does need to be taken if Boris was looking to get a cash injection via SEIS or EIS but he can come to Gannons to discuss that!

Another example…

Boris wants to hire a medical whiz kid called Chris W who can propel the business to the next stage. But Boris can’t afford Chris’s asking price – what can he do?  

An EMI option or growth shares could be used to bring Chris on board without the worry of having to find the cash now.

If Chris is as good as Boris hopes (and Chris thinks) he is!, then targets will be met and Chris will benefit via his shares or options by having a larger stake in the business he has grown at a much lower tax rate than if he had just had a high cash salary.

Plus Boris has the comfort that Chris is on the journey with him.

If Chris is given EMI Share Options and waits until the business is sold before exercising the option and selling his shares, he doesn’t even need to find any tax that may be due on the exercise of the share options as he can just pay out of his sale proceeds.

Alternatively, Chris could be offered growth shares.  If he joined at a later stage however, the ‘buy-in’ might be higher for his shares than it was for Donald and Ursula.  If so, this need not be a barrier.

Boris could be clever and offer Chris EMI over these growth shares meaning any payment for the shares is deferred under an option until he is able to sell his shares (and hopefully he would be able to do this at a 10% CGT rate!).  This is a more complex but highly efficient route where a Company has Growth Shares but some people would qualify for EMI.

If Chris is not quite as good as he thinks he is, then good drafting on the part of Boris’s lawyers should ensure that he loses his rights to the shares/options if he leaves the Company or is fired before a sale of the Company’s shares.

Boris might be tempted to sell or pass on his business as he has lots of other ideas up his entrepreneurial sleeve! 

There are other alternatives to Boris but employee share plans can stand right at the frontline in making things easier for him.

If Boris finds a buyer then, showing he has put in place a longer term retention tool in form of a share incentive for key people like Chris, is very attractive to buyers who don’t want to buy the business only for the key talent to leave the next day!

Alternatively, if Boris has reached the point where he has several whiz kids on board who are effectively running the ship without Boris needing to do much anymore, he might consider passing the business to the employees and extracting the full value for himself, using an Employee Ownership Trust.

An Employee Ownership Trust (EOT) can be used to sell the business to the employees and, if he did this, Boris does not pay any tax on his gain.

And if Boris is unsure about the position, he can ask his advisers to seek clearance on this from HMRC in advance as to the tax position on sale.

So with so many attractive possibilities available to grow what are you waiting for?

Catherine Ramsay

Manages to explain difficult concepts in easy to understand language. In tune with her clients.

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