Any company offering UK-based employees any form of rights in the company's stock should be aware that these employees may have reporting obligations to the UK tax authorities.
A UK resident employee receiving employment-related securities will likely face UK taxation consequences. “Employment-related securities” is a wide term and covers almost every right in or over equity individuals have in their employer's group. Its ambit goes beyond simple equity and covers most rights under a standard share scheme, including restricted stock units and restricted stock awards as well as more straightforward stock grants and stock options. It also covers rights under UK-specific share scheme types, such as enterprise management incentives or company share ownership plans.
The key trigger for UK taxation consequences is the employee’s tax residency. UK taxation can be triggered even where the employer and the issuer are both US companies and the underlying stock is listed on NASDAQ or another US exchange, provided the relevant participant is resident in the UK under UK domestic legislation.
This can have various implications for the employing company. If the stock is listed, if stock is acquired or option exercised immediately prior to an exit, or if the stock is under the control of another company, then the employer may have withholding obligations in respect of the UK tax and social security contributions charge.
Form 42 - UK reporting requirements
Even where the employing company does not have any withholding obligations and even if there is no tax to pay (for example where employees pay full market value for stock), any issue of an employment-related security to a UK employee will almost certainly trigger a reporting obligation to the UK taxation authority, Her Majesty’s Revenue & Customs (HMRC).
Any company that has outstanding employment-related securities held by UK employees is obliged to complete an annual return called a Form 42. A Form 42 must be completed for each tax year (commencing on April 6 each year) and received by HMRC by the July 6 following the tax year.
Form 42 captures a range of information, not simply granting employment-related securities but also the exercise of options, certain types of vesting and the lifting or alteration of restrictions attaching to stock awards. The purpose of the form is to capture any event during the course of a year that may have given rise to a UK income tax charge in relation to employment-related securities.
Even where no events have occurred, if employment-related securities remain outstanding it may be necessary to submit a nil return.
Submitting returns is a legal obligation and there are penalty charges for a person who is obliged to submit a Form 42 and does not do so. Generally when HMRC becomes aware that employment-related securities are at issue, a blank form will be issued for completion. Even if you are not asked to complete a Form 42, you may still have a legal obligation to do so. HMRC are often unaware of equity arrangements involving US employers. That does not mean that there is not an obligation.
Other UK reporting requirements
Form 42 is HMRC's all-purpose return for reporting in relation to employment-related securities. The UK also operates some specific tax advantaged employee share schemes: the Enterprise Management Incentive scheme and the Company Share Ownership Plan. These have their own reporting requirements, the EMI40 and Form 35 respectively. These are to record specific details of options granted and exercised during a course of a year.
Completing a Form 42
Completing a Form 42 can be a complex business. The form seeks to capture a broad variety of information. Its design assumes a familiarity with HMRC jargon, which does not always equate in a direct way with the language typical of US share plans. Professional counsel may be useful in such circumstances. We have extensive experience in advising US clients on the UK implications of their employee equity incentive arrangements and in completing these forms.