Enterprise management incentives (EMI)

EMI share options are specifically designed for trading companies with growth potential and are intended to help such companies recruit and retain employees. They provide individuals with significant tax benefits and are much more flexible than other tax favoured share arrangements.

Main features

  • EMI can be used by independent quoted or unquoted companies with gross assets of £30m or less
  • A company or group must have fewer than 250 full-time equivalent employees
  • All employees must work at least 25 hours a week or 75% of their total working time for the company
  • Up to £250,000 worth of shares can be granted to each individual
  • The limit on the total value of options that can be granted under EMI is £3m
  • Generally no income tax or national insurance contributions (NIC) liabilities arise on grant or exercise of market value options
  • Capital gains tax (CGT) at 20% will be payable on sale of the shares unless you have held your option for 24 months and then you should qualify for Business Asset Disposal Relief and a 10% tax rate on the first £1m of gain
  • The market value of shares can be agreed in advance
  • A company can obtain ‘advance assurance’ that it qualifies for EMI
  • Provided conditions are met, a corporation tax deduction should be available to the employing company in the period in which the employee realises a gain.

 

Qualifying companies

EMI is available to quoted and unquoted companies with gross assets of £30m or less. In a group, the gross assets test is applied to the group (excluding intra-group transactions).

The company must carry on a qualifying trade and there are detailed provisions in this regard. Examples of trades which do not qualify include leasing, farming, financial activities and property development.

In a group, EMI share options must be granted over shares in the parent company and at least one of the trading subsidiaries must carry on a qualifying trade.

A company granting EMI options must not be under the control of another company. However, the parent company of a qualifying group can grant EMI options to group employees.

 

Qualifying options

Options must be granted to employees or directors over ordinary shares that are fully paid and not redeemable. The shares can, however, be subject to restrictions.

Only EMI options over not more than £250,000 worth of shares per individual will qualify for EMI treatment.

Options can be granted at a discount or nil price although there are adverse tax consequences. Options must be capable of being exercised within 10 years.

 

Eligible employees

EMI options can only be granted to employees who are required to work for at least 25 hours a week, or, if less, at least 75% of their working time must be for the company.

Employees who have a ‘material interest’ of more than 30% of the share capital before the options are granted are excluded from participation.

 

Employee taxation

The tax benefits are very generous with no income tax or NIC at the date of grant; and none on exercise where the exercise price is no lower than market value. If the option is granted at a discount, there will be income tax and NIC payable at exercise on the amount of the original discount or the gain on exercise if that is lower. It is possible for the employer to transfer its NIC liability to employees.

On a disposal of the shares the increase in value from the market value at date of grant will usually be liable to CGT at the Business Asset Disposal Relief 10% rate of tax (on the first £1m of capital gain). If the sale takes place within 24 months from the date of grant (or the £1m lifetime limit for Business Asset Disposal Relief has been utilised), the standard rate of 10% and/or 20% will apply depending on whether the individual is a standard or higher rate taxpayer.

Where the company or individual does not meet the qualifying criteria throughout the life of the option, income tax is payable on the gain during the non-qualifying period (see potential pitfalls).

 

Potential pitfalls

EMI provides generous tax and NIC reliefs for qualifying options. However, there are a number of disqualifying events which will limit these reliefs. Disqualifying events include:

  • The company coming under the control of another company
  • The company ceasing to meet the trading activities test
  • The employee ceasing to be an eligible employee
  • A significant variation in the terms of the option (see below)
  • A non-commercial alteration to the share capital of the company that increases the value of shares under option.

 

If the option is exercised within 90 days of a disqualifying event, full income tax and NIC benefits are maintained. If the option is exercised more than 90 days after a disqualifying event, then relief is only given up to the date of the disqualifying event. It is essential that companies and option holders keep EMI arrangements under review. On a sale or takeover it is possible to have an exchange of options which will protect the tax reliefs. This should be provided for in EMI option agreements.

 

Varying an option – clarity from HMRC

Many EMI scheme rules contain discretionary powers which allow the board to determine “when” and “to what extent” subsisting EMI options will be exercisable. These powers can generally be used to amend

  1. When an EMI option can be exercised (or the event that triggers exercise);
  2. The vesting dates;
  3. The performance conditions; and
  4. The good/bad leaver provisions.

    5. The powers provide useful flexibility to clients to “reset” and “flex” granted EMI options to ensure relevance to changing company performance and the wider business environment (for example, by resetting performance conditions as commercial circumstances change).

    Until recently, HMRC’s published guidance stated that there are circumstances in which the use of such discretionary powers could trigger EMI options to be treated as though they had lapsed, from a beneficial tax perspective, where the change to the terms is so fundamental as to constitute the grant of a new option. This would mean the beneficial tax treatment on historic gains would be lost on the subsequent exercise.

    Due to uncertainty over how this guidance should be applied in practice, HMRC has published updated guidance on the “principles” they will apply when assessing whether the exercise of a discretionary power by the board triggers a change to the EMI status of subsisting EMI options when they are exercised.

    The guidance now sets out the following key principles on the use of discretionary powers:

    1. The exercise of discretion to accelerate vesting or to vary or waive a performance-related condition is generally acceptable, provided the exercise date is not brought forward.
    2. Varying or waiving of performance-related vesting conditions applying to EMI options will generally be acceptable.
    3. Where the board has complete discretion under the scheme rules to choose the circumstances or timing under which an EMI option may be exercised, the exercise of this power will be regarded by HMRC as a lapse and regrant of a new EMI option.
    4. HMRC has confirmed it is not acceptable to amend the EMI option rules or use discretion to create a new right of exercise, introduce a discretion clause where none existed before or to change “when” the EMI option can be exercised, unless the amendment does not involve an improvement to the rights of the option holder which is more than de minimis.


    HMRC’s approach to discretion has highlighted an important distinction between (a) changes to vesting rights or performance conditions which may increase the number of shares that can be acquired on the exercise of the EMI option but does not accelerate the point from which the EMI option can be exercised (which will not impact on the EMI tax treatment); and (b) changes to vesting rights or performance conditions which mean that the EMI option can be exercised at an earlier point than it otherwise would have been exercised or gives a new right of exercise (which will have a negative impact on the EMI tax treatment). The main practical impact of the updated guidance is that employers can expect to be challenged by HMRC on the tax treatment of their EMI arrangement if the vesting term of an option is amended to bring forward the date on which the EMI option can be exercised.

     

    Administration

    Although EMI plans are not approved in advance by HMRC the options must be reported electronically within 92 days of grant. We suggest that the market value of shares in unlisted companies is agreed in advance with HMRC Shares Valuation. HMRC has announced that this deadline will become 92 days from the end of the tax year of grant for options granted from 6 April 2024.
     

    Next steps

    Many EMI plans are bespoke to the company with individual rules and performance targets. BDO can help with all aspects of the design, drafting and implementation of your EMI Plan, including communication, valuation and ongoing compliance requirements. To find out more please get in touch with your usual BDO contact or Matthew Emms or Andy Goodman.

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