The Enterprise Management Incentive (EMI) is an HMRC-backed share option scheme, and it is one of the most popular option schemes in the UK, mainly used by small and medium-sized companies.
EMI schemes’ key benefits are attracting and retaining talent, increasing loyalty at early-stage businesses, and benefiting from tax advantages, being the most tax-efficient plan for granting options to employees.
This article explains what an EMI option scheme is, its benefits and requirements, and the process to set it up.
What is an EMI option scheme?
An EMI share options scheme allows companies to grant options, the opportunity or right to buy shares at a future time, to employees and directors with significant tax benefits.
Through the Enterprise Management Incentive (EMI) scheme, your company can grant employees share options up to the value of £250,000 in a 3-year period.
Tax is incurred only on the value of the shares at the time of their award, and employees are charged only 10% Capital Gains Tax (not the standard 20%) at the time of the sale.
The trade-off is that there are stricter requirements for a company to be eligible for an EMI scheme.
EMI option scheme requirements
With EMI schemes being one of the most advantageous schemes in terms of tax benefits, specific requirements need to be adhered to in order to qualify for them.
For the company:
- Independence – the company must not be a subsidiary of another that owns more than 50% of its ordinary share capital or is controlled by another company.
- Trading in the UK – the company must trade in the UK, with at least 50% of the sales coming from within the UK.
- Gross assets – the value of the company’s gross assets (or of the consolidated group of companies) must be less than £30 million.
- Employees – the company must have less than 250 employees.
- Business activities – the company does not carry out certain excluded activities (e.g. banking, farming, property development, legal services, accountancy).
For the employee (or director):
- The employee must work with the company (or group of companies) for at least 25 hours per week, or 75% of the employees available working time per week.
- The employee must not own more than 30% of the company’s ordinary share capital.>
- The value of the shares cannot exceed £250,000. Note that the value of the shares under option is calculated at the date the options are granted.
If the employee/director gains a material interest of above 30% from the grant of an EMI option, he would be unable to receive further EMI options.
Companies that do not necessarily qualify because of the above requirementsmay have access to other schemes such as Save As You Earn (SAYE), Company Share Option Plans (CSOPs), and Share Incentive Plans (SIPs).
Benefits of EMI option schemes for employers
EMI schemes may attract talent for the company as this is a perk when competing against more prominent companies in competitive industries.
Likewise, the scheme retains talent and motivates your employees by making them work towards medium and long-term goals and see a foreseeable payoff to work through challenging periods. Additionally, if an employee leaves, his options are lost, so the EMI scheme helps to reward only those workers who have performed to the highest standards.
Finally, EMI schemes can provide companies with no employer’s National Insurance Contributions on either the grant or exercise of the options if the requirements are met and with corporation tax deductions equal to the employee’s gain when the options are exercised.
When the exercise price equals the market value, your corporation tax deduction equals what would have been taxed without the EMI Scheme relief.
Benefits of EMI option schemes for employees
For employees, there are three phases generally related to share options, namely the grant, exercise, and disposal.
Employees are not liable for tax (no income tax and no NICs) on the grant of an option, nor are they liable on their exercise if the exercise price is at least equal to the market value of the shares when they were granted.
Employees are instead liable for tax if the exercise price is less than the market value of the shares at grant, at which point the difference is subject to income tax.
Regarding disposal, once an employee sells their shares, capital gains tax may apply to any amount over the market value of the grant. Another possible benefit is that persons selling shares from EMI options may be able to take advantage of entrepreneurs’ relief (reducing the rate to just 10%) if its requirements are satisfied.
How to set up an EMI scheme
EMI options can provide employees with newly issued shares or transferred shares from existing shareholders or employee benefit trusts.
As a company setting up an EMI scheme, the process you need to follow is relatively straightforward.
- You would first need to assess your company’s and employees’ eligibility in light of the requirements.
- You will need to design the scheme by deciding how the scheme will operate (e.g. the vesting provisions). Apart from the HMRC rules, the terms and conditions for the option scheme are flexible and can be designed according to your company’s goals.
- You will need to then file with HMRC to receive a valuation. You should create a valuation report containing two values, the Unrestricted Market Value and the Actual Market Value. The valuation report has then to be submitted to HMRC via the VAL231 Form. The HMRC valuation is valid for 90 days.
- You must authorise the shares which are to be distributed and pass the relevant director and shareholder resolutions.
- You can then send out the option agreements to your employees.
- You will finally need to register your EMI scheme, along with the options and the recipients of those with HMRC, within 92 days.
To avoid some EMI schemes pitfalls, you need to be aware of the specific deadlines of 90-days to grant the options or the 92-days to notify HMRC of the EMI scheme. It is also essential to have an adequate share valuation to avoid high purchase costs to employees.
You also need to be aware that you need to notify HMRC of any changes to your EMI scheme, such as new recipients, removing recipients or updating your cap table to reflect the current options issued.
Our team at Linkilaw Solicitors can guide you through the process of setting up an EMI option scheme tailored to your business needs by drafting the scheme rules and the valuation report.
Book a call with our legal team today.
Our legal commentary is not intended to be a comprehensive review of all developments in the law and practice. Please seek legal advice before applying it to specific issues or transactions.
