To preserve cash companies may now be considering granting share options rather than paying bonuses. Some companies may be trying to incentivise their existing staff with new share options. Other companies may be adjusting performance conditions for share schemes to ensure that any conditions are not unattainable.
“Fairness” will be a key principle to observe in all decisions.
New hires
If a company is currently in the process of making a senior hire then a lower base salary could be supplemented and made more appealing with a share award. This will mean that companies can still offer attractive packages to staff even while cash is limited. It can also be very tax efficient. A broad discretion can be built in to any awards being granted now both in terms of ability to amend performance conditions once the economic outlook is clearer and to limit the number of shares that vest to avoid windfall gains.
The share valuation which can be agreed with HMRC in respect of the grant of EMI options is important for two reasons:
- where EMI options are granted with an exercise price per share equal to the actual market value of a share, no tax should arise on exercise (assuming certain other conditions are met).
- there is an individual limit on the value of shares under an EMI option of £250,000 and a limit on the value of a company’s shares which can be put under option of £3m (by reference to the unrestricted market value at the date of grant).
Therefore, the lower the market value which can be agreed, the greater:
- the potential tax-free gain when the options are exercised.
- the number of shares over which EMI options can be granted.
Existing share schemes
In terms of discretionary share plans, businesses will be struggling with questions around target setting for the year ahead in an uncertain economic environment, but also around the quantum of any awards. Performance conditions may need to be amended where those originally put in place are no longer appropriate.
Some companies may also need to determine differing leaver treatment (under plan rules) for redundancy compared with treatment of furloughed participants (or even how to treat awards made to an individual made redundant in early March but now rehired and furloughed to access the Job Retention Scheme grant).
Redundancy
Redundancy is usually a “good leaver” reason under the rules of most share schemes. Schemes sometimes provide that an option lapses 90 days after the option holder has left. If good leavers under an EMI scheme have more than 90 days in which to exercise their options, the company should make sure that it keeps a record of the market value as at the date the employee becomes redundant. Any gain which arises after the employee ceases employment (which is a “disqualifying event” for EMI purposes) will, unless the option is exercised within 90 days of cessation, be subject to income tax and potentially employee and employer national insurance contributions. A failure to keep a record of the market value at the time the employee is made redundant will mean there is no certainty as to which part of the gain should be taxed when the option is exercised.
Furlough
A “disqualifying event” occurs where an employee with an EMI option is put on furlough leave under the Government’s Coronavirus Job Retention Scheme. This is because the option holder will no longer meet the working time requirement in the EMI legislation. Some schemes may provide that the option lapses 90 days after a disqualifying event. This has been raised with HMRC. It is hoped that they will publish a concession (similar to the one that already exists for EMI option holders who are called up to serve as armed forces reservists).For those schemes which do not lapse, any gain which arises after the employee is put on furlough leave will (unless the option is exercised within 90 days of cessation) be subject to income tax and potentially employee and employer national insurance contributions.
Where an employee is not put on furlough leave, but their hours are reduced, an EMI disqualifying event will also occur if, at the end of the relevant tax year (6 April to 5 April the next year), the option holder has not, in fact, spent at least 25 hours a week or 75% of the option holder’s working time with the group.
Liaising with HMRC
The current economic situation and a company’s short to mid-term business projections may enable the company to agree a low share value with HMRC for the purposes of granting EMI options.
HMRC’s agreement to valuations is generally valid for 90 days. Companies about to grant options on the basis of a valuation agreed with HMRC in February 2020 may wish to consider whether they should go back to HMRC and ask them to agree a lower valuation. For existing EMI options, companies should consider seeking a lower valuation from HMRC and offering existing option holders the opportunity to surrender any options that have an exercise price which is higher than the current valuation, in exchange for new options with an exercise price reflecting the current market value.
To qualify to grant EMI options, a company must have gross assets of £30 million or less. While no-one welcomes a downturn, some companies that may not have previously qualified to grant EMI options may become able to do so. As the economy picks up, having established an EMI scheme during their window of opportunity could turn out to be more tax efficient both for employees and the company.
Research has consistently shown that companies with higher levels of employee share ownership have greater employee engagement and resilience during a downturn.
If you are concerned about furlough, incentivising or managing employees through this difficult period, do make contact with our employment team who would be happy to assist.
For further information on how to deal with matters relating to the Coronavirus outbreak, please visit our Covid-19 Insights Hub.