How EMI Share Schemes Help You Attract and Retain Key Employees

There are so many different ways to grow a business, yet one universal key contributing factor to the success of any organisation is its people. So, if you’re focused on building your “A-Team”, then you’re in the right place looking into how EMI share schemes can help your company flourish and thrive. We’ll give you a clear overview of everything you need to know about the Enterprise Management Incentive share scheme so that you can decide whether it’s an opportunity you might be able to maximise on.

What is an EMI share scheme?

Enterprise Management Incentive (EMI) share schemes are a type of government approved employee share option scheme that small to medium-sized companies can utilise. By adopting this kind of scheme, you grant your employees the option to buy into the company that they work for, thereby effectively owning a part of the company themselves. There are other types of employee share schemes available, but EMI share schemes are government-approved which means that, so long as you remain within the eligibility conditions, then you’ll benefit from a more favourable tax treatment than those which are unapproved.

EMI share schemes are specifically intended to help small businesses grow by making the company potentially more attractive than competitors when it comes to the recruitment of key positions needed to help you achieve your business goals, as well as help you better retain top performing employees. The reason behind this is because, if an employee owns a stake in the company, then their own motivation to do well becomes naturally far more aligned to the company’s goal to grow and succeed.

Who can use an EMI share scheme

Only limited companies can use EMI share schemes as you must have the ability to issue shares in the company to your employees, so this automatically excludes those businesses operating as sole traders or partnerships. What’s more there are further eligibility conditions which the company must meet and remain compliant with for the full duration of the EMI share scheme, or it becomes an unapproved share scheme.

To ensure that the tax-advantageous scheme is only accessed by the intended small to medium-sized companies requiring support, regulations stipulate:

• The company must have less than 250 full-time staff (249 employees is therefore the maximum)
• The company must not have gross assets of more than £30 million
• The company must not be controlled by another company (i.e. it cannot be a 51% subsidiary of a parent company)
• The company must carry out a qualifying trade. Excluded activities include banking, farming, property development, provision of legal services and ship building. A full list of excluded activities can be found here.
• The company cannot offer more than £3 million in share options at any time (with the value of the shares based on market value at the time of grant)
• The company must have a permanent establishment in the UK

So, how do EMI share schemes work?

Let’s start by explaining the mechanics of a share option agreement as this is what gets offered to your employees if you go down the route of using an EMI share scheme. The share option agreement is a legal contract which grants the employees the right to purchase shares in the company at a fixed price but usually at a later date. These two points are important.

The price is usually fixed at the value that the shares are worth at the time the share option is granted, and to put this into context, it’s generally when the company has just started out or is setting its sights on its next growth phase. What this means is that the aim is, by a later date (this is where the second point comes in), the shares have grown in value because the employees and company have worked to achieve shared goals for business growth and success.

The employees benefit because they are able to purchase the shares at the originally fixed price and therefore also able to sell (if desired) for the new higher price. If, on the other hand, the company has failed to grow in value, there is no obligation for the employees to buy the shares and therefore the option is risk-free.

How do they help attract and retain employees?

Offering an EMI share option as part of the remuneration package can help you recruit the right people with the skills you need to get your company to where you want it to be. Perhaps you need someone with a keen eye for details in your finance department, or possibly someone with bags of creativity to help you convey a unique selling point of a product or service, but the key challenge you have in hiring new employees is being able to offer a competitive salary amongst others in your industry. This is where including an EMI share option can make a real difference because there’s the potential that the employee could be earning much more than just a salary. Where the employee chooses to exercise their grant option (meaning to buy the shares) they could be in receipt of dividends or a substantial payout where the company is later sold for a profit.

Not only do they help you hire top tier talent for your company, but EMI share schemes can help improve your employee retention rate. Carefully designed EMI share schemes can include vesting schedules which can require employees to be with the company for a certain period, or for the company to reach a certain goal, before being able to exercise the share option. This can therefore intrinsically motivate an employee to stay with the company for longer as well as strive to help the company achieve its goals.

Are there any other benefits for the employee?

If you’re trying to convince a potential candidate to join your ranks and they’re not familiar with EMI shares, then you may want to explain and highlight the other benefits in addition to what we’ve just talked about above:

1. There’s no income tax or national insurance (NI) for them to pay. When an employee chooses to exercise their share option, there is no tax for them to pay unlike with their salaries. This is so long as they are buying the shares for the market value at the time of the share option grant. If they are offered shares at lower than the market rate, then the difference is subject to income tax but not NI (unless the shares are readily convertible to cash such as in a listed company or just before a sale).
2. When employees sell their shares (this typically occurs during an exit event when the company is sold to another), the gain is subject to capital gains tax (CGT) which is a lower rate of tax than income tax that would apply to their salaries. CGT is charged at a rate of 18% for basic rate income taxpayers (compared to 20% income tax) or 24% for higher and additional rate income taxpayers (compared to 40% and 45% income tax respectively). Additionally, those employees who are higher or additional rate income taxpayers can further benefit from a reduced CGT rate to 14% as Business Asset Disposal Relief may be applied (they are required to hold their exercised shares for at least 2 years to qualify).

Let’s use an example to explain how EMI share schemes work for the employee:

Martin has the opportunity to buy shares in the company he works for through an unapproved share scheme option. He is offered 5% shareholdings for the market value of £10,000. After 5 years of working for the company, he decides to exercise his option and buy the shares which are now at a market value of £55,000.

Although Martin pays no tax when he receives the share option, once he exercises the option and buys the shares, he is immediately faced with an income tax charge on the difference between the current share value (£55,000) and what he’s allowed to buy them for (£10,000). Say Martin is a higher rate taxpayer, that would mean that he needs to pay 40% tax on £45,000 which is £18,000.

After 2 years, Martin decides to sell his shares which are now worth £80,000. His gain of £25,000 is then subject to CGT at a rate of 24% so he needs to pay £6,000 in tax. In total, Martin will have paid £24,000 in taxes.

If we use the same scenario as above but this time the company offers EMI share options as opposed to an unapproved share scheme, we can see the difference this will make. Again, Martin can receive 5% shareholdings for the market value of £10,000 and after 5 years he exercises his option and buys the shares which are now worth £55,000. This time, Martin pays no tax when he receives the share option but also pays no tax at all when he buys his shares.

Again, Martin decides to sell his shares 2 years after which increase in value to £80,000. He is still subject to CGT but instead of the standard CGT rate, he is likely able to utilise BADR which reduces the CGT rate down to 14% tax on £70,000 (the difference between what the shares are now worth and the £10,000 he paid for them). Martin therefore only pays a total of £9,800. Furthermore, he only pays this tax once he has actually received money from selling his shares as opposed to having to pay substantial taxes upfront upon exercising his share option in the example above.

Do I have to offer all my employees EMI shares?

No, you do not have to offer every employee in your company the opportunity to buy EMI shares. Unlike other government incentives such as the workplace pension, one big benefit of EMI share schemes is that they are highly customisable and allow you to tailor the scheme to your needs. This means that not only can you choose to offer share options to only a select group of employees, but you can also impose different circumstances on them including how many shares they can receive, the price of the shares on which they can buy them for, and different vesting schedules. However, you also need to be aware that there are requirements on the employee in order to be eligible to receive the tax benefits through EMI shares. 

What are the eligibility requirements for employees?

You will need to make sure that your employees continue to meet the following conditions:

• An employee cannot own more than 30% of the company through their shares
• The maximum value of the shares at the time of the share option agreement cannot be worth more than £250,000
• The employee must work at least 25 hours a week for the company or, if it is less than this, then the time worked at the company must be at least 75% of their overall time spent across all employments that they may hold

What happens if an employee leaves?

That’s a good question, and it’s an important one to understand for both you and your employees. The answer is very much dependent on the rules of your EMI scheme as you have control over how it is set up. However, one of the distinguishing factors that will impact on the outcome is whether the employee leaves with an unexercised share option or exercised shares.

If an employee leaves with an unexercised share option, you can decide between a leaver who remains entitled to exercise their option and one that is not. A leaver who may still be able to exercise their option may be someone who has been a top performing employee but needs to leave due to ill health, retirement, or the sale of the company. Whereas someone who will have their right to exercise their share option removed upon leaving may be an employee who has performed poorly and therefore let go of, has breached their employment contract, or chooses to resign before their vesting period.

Where an employee leaves and is entitled to exercise their share option, they’ll usually have a limited time to do so. This is because the regulations stipulate that they must buy their shares within 90 days of leaving for the shares to retain the approved EMI share scheme tax treatment otherwise they convert to unapproved shares and are taxed at the ordinary and less favourable rate. If they choose not to exercise their share option, then there is no consequence for either the employee or the company.

If an employee has already exercised their share option, they then become shareholders of the company. What happens to their shares once they leave the company now becomes dependent upon the company’s articles of association as opposed to any regulations governing EMI share schemes. Therefore, it’s crucial to ensure your company’s policies and governing documents are precisely as you intend.

Nevertheless, most EMI share scheme agreements will also include leaver clauses to cover these instances. Commonly, those shareholders who have left the company on good terms are invited to sell their shares back to the company for their market value, whilst those who leave the company on bad terms (i.e. due to dismissal) are forced to sell their shares back for a nominal value such as £1 per share. You can mandate the outcomes however you wish when you set up your EMI scheme, but it is important that you seek out professional advice to ensure all eventualities are well accommodated for.

Are there any other reasons I should use an EMI share scheme to grow my company?

Not only do EMI share schemes help you attract the right employees and offer them tax benefits on exercising their share option, but there are also tax benefits to be enjoyed by your company as well which can make them even more appealing to consider.

When an employee exercises their share option, your company can claim a corporation tax deduction on the difference between the grant price and the current market value. So, in the case of Martin (above) who purchased his shares for £10,000 when they were worth £55,000, the company can claim a £45,000 deduction against their profits when calculating their corporation tax. In addition to this, there is no employer’s NI to pay but this can be applicable to unapproved share schemes.

Ready to get started on setting up your EMI share scheme?

We hope this has helped you understand how EMI share schemes work to help you get the right people onboard for your company to succeed in its goals. When you’re ready to get started on setting up your own EMI share scheme, get in touch with us to discuss how to execute the finer details. Our team of experts are on hand with practical advice as well as support to ensure your scheme is set up correctly so that neither you nor your new employees miss out on the tax benefits.