I AM frequently asked this question by owners of businesses and the reply I always give is that one should take time before giving shares to an employee and consider the alternative options.
The desire to enfranchise your senior management in the business by giving them shares in the company is a laudable proposition with some commercial merit. There are however two key considerations.
Firstly, there is the question of tax issues. By giving shares in the company to your employee, you are in essence remunerating them and rewarding them for their service.
The employee will therefore suffer income tax on the receipt of the shares and there can be PAYE and national insurance implications, depending on the circumstances.
Secondly, there are the fall-outs to consider. Issuing shares to an employee could backfire in the event that you do not see ‘eye-to-eye’ in the business going forward.
If the employee leaves the company, the owner will not want the employee to still own the shares, particularly if they go to work for a competitor. At this point, they will have to consider how they might force the employee to sell the shares back and at what price.
This can be planned for through the Articles of Association of the company but it is complex.
It is absolutely crucial to build value in your business by enfranchising senior management in the business and aligning them with your strategy. If the owner of the business is growing the business for sale, it is important that senior management have a vested interest in their ‘end game’ being reached.
While this can be achieved by giving them shares, in my opinion it is often better achieved by granting share options.
A share option allows the employee to acquire shares in a company in circumstances such as a sale or float of the business.
There are basically two types of share options: approved and unapproved. At Baker Tilly, we have assisted clients in implementing approved share option schemes on numerous occasions and the Enterprise Management Incentive plan is very popular.
There are no tax consequences on the grant of the EMI option nor on the exercise by the employee of the option, provided he or she pays the market value at the date of grant. The real effectiveness is that the taper relief for the employee starts to run from the date the share options are granted and not the date the shares are acquired.
Frequently, the employee will take the share option and leave it unexercised until the day before sale or float, then acquire the shares to sell immediately upon sale or float. Often the employee then benefits from business asset taper relief, i.e. the shares can be sold at a ten per cent rate of tax.
In the event that an employee leaves, these options are typically drafted to lapse and consequently arguments about buying shares back and at what value do not arise.
For further information on this and other taxation issues, contact Gareth Watkins on 01908 687800 or email Gareth at gareth.watkins@bakertilly.co.uk
For more information, visit www.bakertilly.co.uk
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