Other Share Schemes inc CSOP

For employees, the EMI option scheme is the most beneficial but if the company or the employee is not eligible for some reason then there are other forms of option schemes (principally CSOP) and incentives that may be suitable, as listed below. EMI is not available for non-exec directors or consultants, as they are not employees, but they can be granted 'unapproved options'. We have a useful guide to share and option schemes which can help you choose a suitable plan - click here to download.

Our specialists can help with the following schemes and structures – please call or email –

  • Company share option plans (“CSOP”) – design and drafting of CSOPs. Tax efficient HMRC tax favoured options but with relatively limited flexibility and valuation cap. Useful where options are preferred to shares and where EMI is not available (more information is shown in the section below). Download our Guide here.
  • Share acquisition plans – design and drafting of shares which may be subject to commercial performance targets (to aid in motivation) and leaver provisions (to assist with retention). Applicable generally where the market value of the shares is low.
  • Deferred share plans/nil or partly paid plans – design and drafting of up-front share acquisitions but where the acquisition cost to employees is deferred. Deferred/nil or part paid share plans offer tax savings to employees and employers but with additional legal and tax issues to consider. Useful where EMI isn’t available and particularly relevant where reducing employee tax costs is key to the incentive.
  • Growth share plans – design and drafting of a particular class of employee shares which have an inherent lack of economic entitlements but with the potential for employees to share in the eventual growth in value of shares. Growth shares provide tax and funding cost benefits to employees and tax savings to the employer and can be combined with EMI for extra efficiencies or can be an alternative to EMI if they company is ineligible for such a scheme. Growth shares may offer significant savings where the current market value of shares is already substantial, through their ability to reduce the up-front unrestricted market value of the shares. See our guide to growth shares here.
  • Joint share plans (“JSP”) – design and drafting of JSPs. Shares are jointly held by employees and an employee trust on the basis that the employees are entitled to a share in the future growth in value of the company (possibly in excess of a target hurdle). Joint shares provide tax and funding cost benefits to employees, together with employer tax savings. Often used for listed companies or where establishing a separate class of growth shares is not feasible.
  • Unapproved options – design and drafting of flexible options which can be used for non-employees, as a top-up to other arrangements or as a stand-alone incentive. They are called 'unapproved' because they do not have any specific legislated tax breaks, unlike the EMI and CSOP for example (more information is shown in the section below).
  • Phantom option plans – design and drafting of cash based incentives with the value of the pay-outs calculated by reference to increased share values. Phantom options are flexible and help to avoid share dilution but are relatively tax inefficient.
  • Cash bonuses – design and drafting of bonus plans with a particular focus on the commercials and legal protections for employers.
  • Share Incentive Plans – design and drafting of HMRC tax favoured all-employee Share Incentive Plans.
  • Listed company share plans – involving applicable plans mentioned above plus SAYE, Deferred Annual Bonus Plans, Co-Investment Plans and Long-Term-Incentive Plans/Performance Share Plans.
  • Employee Shareholder Shares – share right design and drafting and associated employment law advice for the Government’s new employee shareholder scheme. Such shares offer unlimited CGT free gains in exchange for the sacrifice of certain employment rights. Closed to new schemes from 1 December 2016.
  • Internal share markets – where an exit is unlikely, for example in family owned companies, we can advise on the design, creation and drafting of internal markets for enabling employees to realise value from their holdings.
  • Employee Benefit Trusts – design and drafting of EBTs and associated legal and tax advice including disguised remuneration in the context of incentive plans.

Company Share Option Plans (CSOP)

A Company Share Option Plan (CSOP) enables a company to grant share options to selected executive directors and employees over shares at a market value agreed with HMRC at grant date. The acquisition of shares on the exercise of the option three or more years after the date of the grant will be free of income tax and National Insurance contributions (NICs).

When will a CSOP be appropriate?

A CSOP is a discretionary plan, which means that companies can select particular executive directors or employees to benefit, rather than an all-employee plan such as the approved share incentive plan (SIP) or Save As You Earn, where all eligible employees and directors must be invited to participate.

An individual can hold CSOP options over shares with a value of up to £30,000, however it's important to note that this amount is calculated using the HMRC-agreed market value, which for employees will typically be heavily discounted, such that the £30,000 limit is actually worth four or five times that amount in real market value.

Which companies can use a CSOP?

To qualify to grant a tax-favoured option under a CSOP, a company must either be a listed company or, if unlisted, must be independent and not controlled by another company. The shares issued under that option must also fulfil certain conditions, including that they must:

  • form part of the ordinary share capital of the company;
  • be fully paid up and not redeemable.

Who can be granted an option?

Any employee is eligible, but only executive directors working at least 25 hours a week for the company are eligible – non-executive directors cannot participate. There is no working time requirement for employees who are not directors.

Individuals with a material interest – broadly a 30% shareholding – in a close company whose shares may be acquired under the CSOP are also unable to participate. A close company, for the purposes of UK tax law, is broadly speaking a small company with no more than five controlling parties.

Requirements for the options themselves

Share options must be granted with an exercise price which is equal to or exceeds the market value of a share at the grant date. The options, therefore, provide a benefit to participants to the extent that the value of the shares increases between the date of the grant and the date the participant exercises that share option. That growth in value is delivered income tax free under a CSOP within the £30,000 maximum limit and assuming all other conditions are met.

When can an option be exercised?

In order to benefit from the favourable tax treatment offered by a CSOP, the option should not be exercised less than three years from the date of the grant except in certain circumstances set out below. Additionally, employees may only become eligible to exercise options subject to specified performance targets, which should be clearly laid out by the company at the date of the grant and communicated to optionholders. The share options would then become exercisable, if at all, to the extent that these performance targets were met.

Early exercise of a share option (ie within 3 years from the date of the grant) may benefit from the tax-favoured status in the following circumstances:

  • "good leavers" – disability, injury, retirement or redundancy (if exercised within 6 months);
  • death (if exercised within 12 months);
  • certain "company events" - a cash takeover of the company, a court-sanctioned scheme of arrangement, or a shareholder approved reorganisation of a non-UK company's share capital or a minority squeeze out, provided certain conditions are met (if exercised within 6 months).

Tax treatment

For individuals exercising CSOP options in approved circumstances, the big advantage of the scheme is that any increase in the value of the shares between the grant and the exercise of the share option is delivered free of income tax and NICs. If and when the shares are sold by the employee, normal capital gains tax (CGT) rules will apply if there has been an increase in the market value of the shares between the time the share option was exercised and when the shares were disposed of, so tax will be payable at the 10% or 20% rate for CGT and the annual allowance will be available as well.

Where share options are exercised within 3 years of the date of grant other than in the specified circumstances above, income tax will be due on any increase in value between the market value of the shares at the date they are acquired and the exercise price. This may be collected under Pay As You Earn (PAYE) arrangements if the shares are "readily convertible assets" at the time, in which case NICs (including employer NICs) will also be due.

The company itself is likely to qualify for a corporation tax deduction when the option is exercised by its employees. Tax relief is given as a deduction from company profits of an amount equivalent to the benefit received by the option holder.

Our fees

We offer a fixed fee service for £2995 + vat to set up a CSOP, which includes agreeing the market value of the shares with HMRC.

Summary

A CSOP is an efficient way to deliver an additional financial benefit to selected individuals within an organisation.

Download our Guide here.


Unapproved (or non tax-advantaged) Option schemes

Summary

As with any other discretionary option plan, an unapproved share option plan involves the granting of a specific number of options to an individual. These options will provide that the individual can, at an agreed date or point in time, acquire a given number of shares (the underlying shares) for a fixed price.

Given that there is both no upfront cost to acquiring the options and no requirement for the individual to pay over any monies unless the underlying shares increase in sufficient value there is little risk attached to the receipt of options. As a result, the tax treatment and rates applicable will often appear to be very similar to cash bonuses.

Key considerations

Grant of options

o The terms of the options will need to be set out in a suitable legal document (known as the Rules or option agreement). The Rules will govern all pertinent matters between the company and employee and, given the tax complexities that can occur in such arrangements, a suitable and up to date precedent should be obtained.

o One of the key terms will be the price that the individual has to pay to acquire the share (the exercise price). No tax arises on the granting of share options. As a result, the exercise price can be set at any figure from a share’s nominal value upwards.

o Under an unapproved plan, there is no limit as to how many options are granted, as a result, an unapproved plan may be used in conjunction with an approved plan where the intended award level is in excess of the limits allowed by the approved share option plan.

Terms of the options

o As the Rules of an unapproved plan do not have to be agreed with HMRC, they can be drafted wider than for approved plans and can often better reflect the commercial terms of the issuing company.

o Whilst each set of Rules will contain its own unique terms, there will be a number of important areas common to all Rules including length of the option period, vesting conditions and leaver provisions.

o The option period will run from the date the options are granted until an agreed date in the future. The period can run to any length of time.

o Vesting conditions are particular requirements that must be fulfilled before the employee can exercise the option and can be broken down into two broad areas: time requirements and performance conditions.

◦ Time requirements will set out the period during which the option must be held before exercise can occur. This will be a commercial decision and will reflect the minimum length of time that the company would wish the employee to hold the option before acquiring the underlying share.

◦ Options do not need to vest all at the same time and, often, there may be a phased approach such that only a proportion of the options can be exercised at particular dates in the future.

◦ Even where the options are within the window in which they could be exercised based on the time requirements, some of the options may still not be considered to have vested if the additional performance conditions are not also met. Performance conditions can either be personal to the individual or be based on corporate performance. In order to avoid uncertainty, any performance condition should ideally be capable of objective measure.

o Leaver provisions will govern what rights an employee has in respect of keeping the options on leaving employment or other association with the company. As options will typically be offered as part of a retention package to employees, directors or consultants, the leaver provisions will often be drafted such that all the options lapse on employment ceasing.

Exercise of the options

o Broadly speaking, on exercise, there will be a tax charge for the employee equal to the difference between the price paid for the share and the market value of the underlying share acquired on the date of exercise.

o Unless the underlying share acquired is a readily convertible asset (RCA) there should be no NIC due on employee or employer. Shares would be RCAs where there is a ready market or buyer for the shares.

o The company will need to receive a sum of money from the employee equal to the total of number of options exercised multiplied by the exercise price.

o In addition to the exercise price, the employee will, at the relevant date, have to pay the tax/NIC liability on acquiring the shares. However, if, as terms of the share acquisition, some of the shares cannot be sold by the time that the tax is due, this will mean that the employee will have to find the necessary funds from other sources.

Tax treatment and reporting

Tax on company

o The granting of the option is not a taxable event for the Company other than Employers' NIC will be due from the company on the exercise of the option if the underlying share acquired is an RCA. Where this is the case, Employers' NIC will need to be paid over to HMRC in the PAYE payment that relates to the tax month in which the option is exercised.

o A corporation tax deduction should be available for the company (as per CTA 2009, Pt 12) equal to (a) the amount assessed liable to income tax on the individual employee and (b) any Employers' NIC paid over.

Tax on individual

o The receipt of options, for a UK resident individual, is not a taxable event for the individual employee.

o Income tax will be due on the difference between the exercise price and the relevant market value of the underlying share acquired on the date of the exercise.

o Where the share acquired is a RCA, the income tax and Employee's NIC will initially be paid over to HMRC by the employing company, with the employee due to refund these monies within 90 days in order to avoid the additional charges due for late reimbursement.

o Where the underlying share is not an RCA, only income tax will be due. This will need to be paid via the employee's self-assessment tax return (SATR) in the normal manner.

Tax reporting requirements for the individual

o The acquisition of the share option is not reportable for UK resident employees.

o Where the shares acquired are RCAs, all taxes paid in relation to the exercise of the options should be recorded on the P60 received from the employer and no further reporting should be required.

o Where the shares acquired are not RCAs, the current requirement is for the employee to record the amount due on the additional information pages to the SATR (SA101).