There have been a number of positive developments for employee share plans over recent weeks, as part of the Budget, the publication of the Finance Bill and other announcements.
Many of the changes reflect the Government’s new commitment to encourage employee share ownership, including simplifying the tax treatment of employee share plans, introducing new reliefs and easing administration.
- Changes to approved share plans (ie SIP, SAYE, CSOP and EMI) to be introduced in 2013 and 2014
- Proposals to simplify unapproved share plans and employee trusts
- Simplifying the rules for private companies to buy back shares from employees from 30 April 2013
- Tax benefits for the new “employee shareholder” status
- Changes to the beneficial loans rules from April 2014, and
- A possible tax exemption for sale of a business to an employee trust
Approved share plans
The Finance Bill contains revised legislation aimed at simplifying the administration and taxation of tax-advantaged share plans. This follows consultation on draft legislation published in December 2012 in response to recommendations from the Office of Tax Simplification (“OTS”). Details of the draft legislation can be found in our earlier Law-Now which is available here. The Revenue has also confirmed that it intends to replace the existing approvals process with self-certification from 2014 and that work will continue in this area during 2013.
The key changes being introduced in 2013 are outlined below. Except where otherwise stated, the changes come into effect from the date on which the Finance Bill receives Royal Assent, which is expected to be in July 2013.
The retirement rules across SAYE, SIP and CSOP will be harmonised to allow businesses offering these schemes to align the definition of “retirement” with the company’s own retirement policy. This change should take effect automatically and so most companies will not need to change their rules to allow this change and, in the case of SIP and SAYE, will not be able to prevent this change occurring.
In addition, SAYE plans currently also allow participants who reach the retirement age specified in the plan to exercise their options on reaching the retirement age, even if they do not leave employment. This right is being removed as part of the changes, but only for options granted on or after Royal Assent.
Takeovers and sales of businesses and subsidiaries
There will be a new income tax and NICs relief where SAYE and CSOP options are exercised within three years, or SIP shares are withdrawn within five years (ie before the end of the normal holding periods for full tax relief), as a result of a cash takeover occurring on or after Royal Assent. A number of changes have been made to the draft legislation published in December 2012. The relief will now apply if various conditions are satisfied, which include:
- The takeover can either be by way of a general offer or scheme of arrangement. This is a helpful change because the original draft in December 2012 only allowed the relief where there was a general offer and many larger takeovers now occur through schemes of arrangement.
The SAYE rules are also being changed to allow SAYE options to be exercised without amending the rules at the time of a takeover by way of a cash scheme of arrangement. This will allow SAYE options automatically to become exercisable then, which has not previously been the case, and will save much extra work on these types of takeover.
- The participant receives cash, but not other assets, for the shares. This is not such good news. There will be no relief where the shares are sold for shares, loan notes or a mixture of cash and shares (although SIP rules will be more favourable). Nor will the relief apply when an offer to rollover options has been made. There is likely to continue to be lobbying pressure here to extend the relief to apply whatever consideration is received on the takeover.
- The existence or possibility of the takeover must not have been the reason why the option or award was granted but otherwise options and awards can be granted when a takeover has been made or is in contemplation. This is a helpful clarification, particularly for SIP partnership shares acquired on a monthly basis, where there was a concern that relief would not be available for any purchases which continued to be made when the takeover offer was being considered.
Changes are also being made to SAYE and CSOP legislation to provide that options can be exercised within three years without incurring an income tax or NICs charge due to a TUPE transfer or sale of an employee’s employing company out of the group. This will be automatic for SAYE but will only apply for CSOP if the rules give an exercise right (although most rules will do so).
SIP –partnership shares
There will be greater flexibility in setting the price at which SIP partnership shares can be acquired where employees save over a savings period (which can be up to 12 months), rather than monthly.
One of the concerns companies have in allowing employees to save over a period of time, rather than buying shares monthly, is that employees pay the lower of the price at the beginning and end of the period. Where companies have to buy shares in the market at the end of the period, this can lead to a heavy expense being incurred where the share price rises over the period (or a large accounting charge if they issue shares), as companies have to bear the difference.
Going forward, the price, which must be specified by the company in the partnership share agreement, can be:
- the market value at the start of the period;
- the market value at the end of the period; or
- the lower of the two.
Trustees must tell participants what price has been used when they give notice of the award of shares. This change will apply to partnership share agreements made or amended on or after Royal Assent.
This change means companies can cap their financial exposure and may now make savings periods more attractive when operating SIPs.
SIP – dividend shares
As expected, the current annual limit of £1,500 on reinvesting cash dividends into SIP shares is being removed from 6 April 2013. However, although most companies had no concerns, some companies were concerned about the effect of uncapped dividend reinvestment and having to find a large number of shares on each dividend payment date. The Finance Bill therefore provides that companies can still retain a cap, albeit it is a complicated one to operate.
In most cases the changes take effect automatically, but companies may wish to update their rules and/or change explanatory material now that these changes are virtually certain to come into effect.
Companies will need to change their SIP partnership share agreements with participants if they operate an accumulation period and want to change the price at which shares are acquired or now want to start using an accumulation period. They will also need to change relevant agreements if they use dividend shares and want to have a cap on dividend shares going forward.
Two important changes are being introduced for EMI options, which are normally only granted by unquoted companies.
- Entrepreneurs’ relief
As announced in the 2012 Budget, individuals who sell shares which were acquired on the exercise of an EMI option will be able to claim entrepreneurs’ relief (which allows capital gains tax to be paid at 10%) even if they do not hold 5% of the share capital and voting rights in the company. The changes take effect for sales of shares made on or after 6 April 2013 provided that the shares are sold at least twelve months after the date on which the EMI option was granted. Note, the shares do not need to have been held for twelve months: it is the combined period of the holding of the option and shares which matters. Entrepreneurs’ relief should therefore now be generally available for EMI optionholders.
When draft legislation was originally published, a pitfall emerged. It provided that entrepreneurs’ relief would be lost if the EMI shares were rolled over into new shares. The position now is that relief will continue to be available if there is a rollover of shares as a result of a company reorganisation which simply results in a new holding company being established, although it will still be lost where there is a rollover of shares as a result of a third party takeover. In that case, it may be simpler, where possible, to exchange the option for an option in the bidder and then immediately exercise.
- Grace period for exercise following a disqualifying event
The period of grace during which EMI options can be exercised after a disqualifying event (such as ceasing to be an employee or the company being taken over) before losing EMI benefits is extended from 40 days to 90 days for disqualifying events occurring on or after Royal Assent (ie July 2013).
Companies operating EMI schemes which provide that options lapse 40 days after a disqualifying event may wish to amend their rules to allow a 90 day exercise period after a disqualifying event to reflect the new tax position.
Unapproved share plans and employee trusts
In January, the OTS published its recommendations on changes to unapproved arrangements and employee trusts and the Government has now provided an initial response to the OTS. A copy of our earlier Law-Now on the recommendations is available here.
The Government intends to consult on a number of changes which could be introduced in Finance Act 2014, including:
- Allowing corporation tax relief to be available where shares are acquired or options exercised shortly after a company has been taken over by another unlisted company. Corporation tax relief for employee shares is very valuable for companies and can substantially mitigate the costs of employee share plans. At present, a corporation tax deduction is unavailable where the shares are in an unlisted company which, at the time shares are received, is under the control of another unlisted company. AIM companies are not listed for this purpose. This can be a problem where a company is taken over by an unlisted company. The proposals would allow the corporation tax deduction to be available for a short period following a takeover.
- Extending the period in which employees can make good the amount of PAYE they owe their employer on the acquisition of shares or exercise of options before they incur a draconian income tax charge.
At present, employees suffer an additional income tax and NICs charge if they do not reimburse their employer within 90 days of the date on which the PAYE liability arose, even if they subsequently reimburse their employer. The OTS recommended removing this charge and treating the amount outstanding as an interest-free loan until it was repaid. The Government has rejected that proposal but will consult on extending the period for reimbursement to 6 July following the end of the tax year. If adopted, the length of time an employee has to reimburse their employer before the additional tax charge arises will depend on when in the tax year the liability arose.
- Simplifying the tax treatment of internationally mobile employees.
- Improving the valuation process for shares (largely relevant only for private companies).
The Government also intends to start online filing of the Form 42 annual return in 2014.
The OTS made two other key recommendations:
- Where an income tax charge arises on shares in a private company, the tax charge should only be payable when those shares become “marketable”, ie when they can be sold for cash, but the employee should be able to elect to pay the income tax upfront; and
- The Government has said that it sees merit in this proposal and is going to consider it further with a view to introducing legislation in 2015.
- Employee shareholder vehicle – this is effectively a UK resident employee benefit trust used to manage employee share ownership arrangements which would benefit from a number of tax reliefs, including capital gains tax and inheritance tax reliefs.
The Government intends to work with the OTS to determine whether such a vehicle could be established in a way which would not create potential for tax avoidance or additional cost to the Treasury. No timescale has been put on when such a vehicle may be introduced.
Possible other Finance Bill 2015 proposals could include better integration of employee share plans within the general PAYE reporting and RTI framework.
Other employee share plan-related issues
Buy-back of employee shares
Draft regulations were published in March 2013 by the Department of Business, Innovation and Skills (BIS) to make it easier for private companies to buy back shares, in particular shares acquired by employees in connection with an employees’ share scheme. The changes are due to come into effect on 30 April 2013, although some further changes may still be made, and are designed to encourage wider employee share ownership by making it easier for companies to buy back shares from leavers without, for example, having to establish an employee trust to hold the shares until the company wishes to transfer them to other employees in the future.
By making it easier to buy back shares from leavers, the Government thinks it will help overcome a known deterrent to providing shares to employees in the first place.
Under the proposals (which are still not yet in final form):
- Private companies will, providing their articles permit, be able to buy back a de minimis amount of shares of, in total, up to £15,000 or 5% of share capital in any financial year (whichever is lower) without having to identify in advance the extent to which the purchase is to be financed out of distributable reserves, the proceeds of a fresh issue of shares or out of capital. This change may be particularly useful in acquiring shares from “bad leavers” who typically only receive small amounts for their shares;
Additionally, where shares are being bought back in connection with an employees’ share scheme:
- Shareholders will be able to authorise multiple buy-backs in advance, rather than authorising each individual buy-back only as and when it occurs;
- Private companies will be able to pay for shares in instalments, rather than in only one instalment; and
- Private companies will be able to buy back shares expressly out of capital more simply, provided the directors sign a solvency statement and shareholders pass a special resolution;
- Shareholders will be able to authorise private companies to make share buy backs by ordinary resolution, rather than special resolution; and
- All companies will be able to hold treasury shares if the shares are acquired using distributable profits or (for unquoted companies) using the de minimis route outlined above.
However, it continues to be the case that any amount received in excess of what an employee shareholder paid to subscribe for the shares will still in normal circumstances automatically be taxed as income, whereas a gain realised on a sale to an employee benefit trust will normally be taxable as a capital gain. This means that for an employee to realise any gain tax-efficiently, an employee benefit trust will still be necessary.
Although no action should be taken before final regulations emerge, companies may wish to change their articles to take full advantage of the new buy-back rules in appropriate cases and obtain shareholder authority for multiple share buy-backs.
For a copy of the draft regulations, please click here
Employee shareholder status
Last Autumn, the Chancellor announced the creation of a new “employee shareholder” status (which was originally called an “employee owner” status).
Under the proposals, employees will receive between £2,000 and £50,000 of shares from their employer in return for giving up certain employment rights, including unfair dismissal (except in cases of discrimination) and redundancy rights. For a copy of our earlier Law-Now on the proposals, please click here.
The proposals have come under much criticism from all sides and the relevant employment law changes were rejected by the House of Lords on the same day as the Budget. Without these, tax legislation is meaningless. However, it may be that the proposals will be reintroduced when the relevant legislation returns to the House of Commons.
Assuming the new status is introduced in (as is publicly now proposed) September 2013, the following reliefs will be available:
- Income tax and NICs will not be payable in respect of the first £2,000 of shares – so they will in effect be tax-free; and
- Gains on the first £50,000 of shares acquired under the arrangements will not be subject to capital gains tax when the shares are sold.
Few employers have expressed any interest in this proposal, but given the uncertainty over whether these proposals will come into place at all, any action on this now seems particularly premature.
Employers can currently make interest-free loans, such as season ticket loans, of up to £5,000 to their employees without giving rise to an income tax and NICs charge. Where interest-free loans of more than £5,000 are provided, an annual income tax and employer’s Class 1A NICs charge will arise on a notional amount of interest on the total loan amount. This is based on the Revenue’s official rate of interest, which is currently 4%.
There is no immediate change here. However, the threshold will increase from £5,000 to£10,000 from 6 April 2014, including for arrangements already in place at that date.
From an employee share plans perspective, the increased limit will also apply to nil and partly paid shares as well as situations where loans are made to employees to acquire shares. Where an employee acquires shares on deferred terms, the amount of the acquisition price left outstanding is treated as a notional loan and, broadly, subject to the same rules (and exceptions) as interest-free loans.
Tax exemption for sale of a business to an employee trust and other benefits
The Chancellor announced in the Budget that there will be £50 million annual funding from 2014/15 to support employee ownership.
This will include a new capital gains tax exemption for qualifying disposals of a controlling interest in a business into an employee-owned structure from April 2014, although no further details have been provided at this stage. Few sellers have so far been interested in selling their business to an employee trust. However, provided the trust can obtain funding, a sale of a business to an employee trust could become the most tax effective exit route for sellers, much better than entrepreneurs’ relief. This may stimulate interest in this, until now, rather altruistic idea.
Further details of how the rest of the funding will be applied are awaited, although it is anticipated that this will not all be tax-related.