Enterprise Management Incentive (EMI) schemes are designed to help small, higher risk companies recruit and retain employees by offering them tax-beneficial share options - perhaps to make up in part for the higher salaries they could expect to earn in larger companies
EMIs are usually used to benefit key employees, or key groups of employees. Each option entitles the employee to acquire shares in the company in the future, at a price agreed at the date of the grant. If the value of the shares rises between the option and exercise dates, the employee benefits.
A qualifying company, that does not carry on excluded activities, can grant EMI options over fully paid shares, with a market value of up to £250,000 in a 3 year period, to each qualifying employee, provided the total value of the options granted to all employees does not exceed £3 million. Each grant can be made subject to individual performance targets. The company’s gross assets must not exceed £30 million.
To qualify, the company must:
- Be a trading company, carrying on commercial, profit-making activities, wholly or mainly in the UK.
- Not carry on ‘excluded’ trading activities (or a trade that includes a significant proportion of excluded activities - usually 20%).
- Not be owned or controlled by any other company. If it has subsidiaries of its own, they must all be ‘qualifying subsidiaries’ - ie the company must own, and exclusively control, all of them (there are special rules if the subsidiaries are property-managing subsidiaries).
- Have gross assets of not more than £30 million.
- Have fewer than 250 employees (or their full-time equivalent) on the date the option is granted.
Excluded activities include dealing in land, shares and other financial instruments, banking, insurance, money-lending, debt-factoring, hire purchase financing or other financial activities, leasing, taking royalties or licence fees, professional services, property development, agribusiness and woodlands, hotels and the like, nursing or residential care homes, and service companies.
The rights attached to the shares can be restricted - for example, they can be non-voting. They must not, however, be redeemable, ie the shareholder must not be able to ‘cash them in’ and get his/her money back.
Who can participate in an EMI scheme?
‘Qualifying employees’ are employees (which, for this purpose, includes executive directors, but not non-executives) working at least 25 hours per week or (if less) not less than 75% of their working time. They must not have a ‘material interest’ in the company. The definition of ‘material interest’ is complex but, generally, it means they must not hold or control more than 30% of the company’s ordinary shares.
Approval and valuations
Prior approval from HM Revenue & Customs (HMRC) is not required when creating an EMI option but the company must notify HMRC of any grant of EMI options within 92 days. A private company can value the options itself, subject to HMRC enquiry, or agree a value with HMRC on each grant.
Grant and exercise of options
There is no statutory qualifying period which must expire before an option can be exercised, but it is usual to provide a ‘holding period’ of two or three years in the scheme rules, before an option can be exercised. It must usually be exercised within a maximum of ten years after the grant.
Both the grant and exercise of an option can be made subject to the employee reaching individual performance targets, so each option can be individually tailored to incentivise the particular employee.
An EMI scheme can distinguish between ‘good’ and ‘bad’ leavers (ie good leavers leave because of injury, illness, redundancy, etc, whereas bad leavers leave voluntarily or are sacked with good cause), and treat each differently if they leave the scheme within the holding period.
On an employee’s death, the option agreement may permit the employee's executors - or administrators if they have not made a will - to exercise the option, provided they do so within one year of death.
EMIs and tax for employees
No tax or National Insurance Contributions (NICs) are payable by participants on grant of an EMI option, nor are any payable on its exercise, provided:
- the exercise price is equal to, or more than, the market value of the option shares at the date of the grant
- the option is exercised within ten years of the grant
If the option is exercised within ten years, and the price paid is less than the market value of the shares at the date the option was granted (ie it is a ‘discounted’ option), income tax will be payable on the lower of:
- the difference between the market value of the shares at the date of the exercise, and the price paid for them
- the amount of the discount
If the option is exercised within ten years and the participant does not pay anything on exercise, income tax is payable on the lower of:
- the market value of the shares at the time the option was granted
- the market value of the shares at the time the option is exercised
If income tax is payable, and the shares can be sold on a recognised stock exchange (or ‘trading arrangements’ are in place for them) at the time the shares are acquired, NICs will also be payable.
If any of the following disqualifying events happen, tax relief is restricted:
- the company becomes owned or controlled by another company
- the company is no longer a trading company, or carries on an excluded activity
- the participant ceases to be eligible
- the options terms change
- the company’s share capital is altered so as to affect the value of the shares
- a participant goes over the £250,000 limit
If shares acquired under the scheme are disposed of, any capital gain over the price paid for the shares (including acquisition costs) that exceeds the shareholder’s annual exempt amount, may be subject to capital gains tax. However, (unlike a company share option plan or ‘CSOP’) business asset taper relief on sale of an EMI scheme share starts from the date that the option is granted, and not from the date the option is exercised, so any chargeable gain will be reduced.
EMIs and tax for employers
The employer company can deduct the value of shares at exercise (minus sums paid), and set-up and administration costs, from their profits assessable to corporation tax.
Always take legal advice before setting up an EMI scheme.
Employee ownership schemes and tax
Capital gains tax relief now applies to owners who sell a majority interest in their business to an employee-owned structure, such as a trust.
Model documents for an employee-owned company are available from the GOV.UK website, including articles of association for an employee-owned company; articles of association for a trustee company; and a model trust deed.
There are two basic models for an employee-owned business: The 'trust model', or 'indirect share ownership', an employee trust is established to hold shares in the company on behalf of the employees, whereas 'direct share ownership' allows employees to hold shares themselves.
Read a manual on EMI schemes on the HMRC website.
Download the Employee ownership: guide for employees from the GOV.UK website.
The employment status of 'employee shareholder', where an employee swaps several of their employment rights for non-voting shares in the firm, is available to employees. Read more about employee ownership businesses on the GOV.UK website. Seek legal advice before entering into any of these arrangements.