Share Incentive

Why grant employee share options?

Employee share options are widely used by private limited companies, and in particular early-stage and growth companies.  The principal reasons are:

• to attract and retain key employees
• to align employee interests with the company’s performance and success
• to enable employees to acquire an ownership stake in the business without investing cash upfront
• as a supplement to an employee’s base salary

What is a share option?

A share option is the right to acquire a share in a company at a date in the future.  Where the option will be satisfied by the issue of new shares, the option itself does not constitute issued shares in the company.  If the employee leaves employment, the option will usually lapse unless it is exercised within a limited time following cessation of employment.  If the employee leaves employment as a bad leaver, the employee is usually not permitted to exercise the option at all following cessation of employment.

Unlike an issued share, the lapse of an option will not require issued shares to be bought back by the company or by other shareholders.

What types of employee share option are available?

Larger companies, and in particular listed companies with a large workforce, may have SAYE (Save as You Earn) or CSOP (Company Share Option Plans).

Smaller private companies will usually offer EMI share options/share schemes (which are tax advantageous) or non-tax advantageous options/plans.

How are share options structured?

Options can be granted either under a scheme or plan or as standalone option contracts.  There is considerable flexibility in how options can be structured.  This includes:

• performance-based options: options vest if specified performance targets (which can be individual or company targets) are met 
• time-based options: options vest over a period of time
• exit-only options: options vest and become exercisable only on a sale of the company or other exit (IPO)

What are tax-advantaged options?

For private limited companies, tax-advantaged options will need to be EMI (Enterprise Management Incentive) options.  The principal tax advantages are:

• for the employee: business asset disposal relief (formerly entrepreneurs’ relief) should be available and the gain in value between the option exercise price and the ultimate sale price should be capital rather than income
• for the employer: a corporation tax deduction should be available, and no employer NICs payable, on option exercise 

What are the requirements for setting up an EMI scheme?

The principal requirements for setting up an EMI scheme include the following:

• the company must carry on a qualifying trade
• the company must satisfy certain size and ownership tests
• options may be granted to full-time employees only (and not to self-employed consultants)
• the company should consider obtaining an HMRC valuation prior to granting options to set the market value of shares as at the date of grant
• there are filing requirements on the grant of options and annually