Emi Faqs

1. you complete a simple information questionnaire and sign an engagement letter with us

2. we discuss any matters relating to the scheme in more detail with you prior to producing a first draft of the legal documents, which will include the following:

- option agreement for each scheme member

- a set of option rules applying to all option holders

- board minutes to approve the scheme

- shareholder resolutions to approve the scheme

Very often the key matter you may want advice on is the structure you would like for the share options, especially whether the options allow the shares to be purchased by the employee over a period such as the three years following grant (a time-based scheme), or only when the company is sold (an ‘exit-based’ scheme). Each type has advantages; for example the exit-only scheme is good if you want people focused on building value and avoids having employee shareholders prior to an exit.

Typically, a time-based scheme would require a new share class and share buy back rights for your company, in the event that an employee leaves after buying shares; in such a case we can provide new or amended Articles of Association. If you plan to have option vesting based on an ‘exit-only’ structure, you may not need any other legal changes such as new Articles or share classes - it will depend on the structure.

3. we also send you three guides:

- a director’s guide to the legal documents

- a board guide explaining how to implement the scheme

- an employee’s guide to the EMI scheme

4. in parallel with preparing the legal documents above, we write to HMRC with a proposed market valuation of the shares (for tax/EMI purposes only i.e. it’s not a commercial valuation). The draft valuation is agreed by you before it goes to HMRC. Their response normally takes 3 weeks.

5. Once we have an agreed valuation and the legal documentation is all finalised, you can then put the scheme in place and grant the options.

6. We then have to notify the option grants to HMRC within 92 days of grant date.

The whole process normally takes 5-6 weeks.

• The gross assets of the company (or the group of companies if a parent company) must not exceed £30 million. Gross assets broadly comprise all assets shown in the balance sheet (note that fixed assets will be included net of depreciation i.e. net book value).
• The company must have fewer than 250 employees.
• The company must be independent and not under the control of any other company. Shares in a subsidiary cannot be used in an EMI option, i.e. the shares must be in the parent company.
• Companies may be quoted or unquoted.
• There is no requirement that the company be resident or incorporated in the UK but the company must have a ‘permanent establishment’ in the UK. Group companies can offer EMI share option schemes to employees throughout the group, provided that all of the subsidiaries in the group are qualifying subsidiaries. Broadly, this means that the parent (or another subsidiary) must own at least 51 per cent of the share capital and fully control that subsidiary.
• Certain trades are excluded from the EMI. For a group, the activities of all group companies will be treated as a single business. Here are the excluded types of business:
  • dealing in land, commodities or futures, or shares, securities or other financial instruments
  • dealing in goods, otherwise than in the course of an ordinary trade of wholesale or retail distribution
  • banking, insurance, money-lending, debt-factoring, hire purchase financing or other financial activities
  • leasing (including letting ships on charter, or other assets on hire)
  • receiving royalties or other licence fees
  • providing legal or accountancy services
  • property development
  • farming or market gardening
  • holding, managing or occupying woodlands, any other forestry activities or timber production
  • shipbuilding, coal and steel production
  • operating or managing hotels or comparable establishments or managing property used as a hotel or comparable establishment
  • operating or managing nursing homes or residential care homes, or managing property used as a nursing home or residential care home

• They must be a contracted employee and work for the company (or, if relevant, a subsidiary) for at least 25 hours a week or for at least 75 per cent of their paid working time (which includes time spent in self-employed work).
• They can't have a “material interest” in the company i.e. more than 30 per cent of that company (this is before including any EMI option shares).

• Each employee can only hold a maximum of unexercised options worth £250,000 in any 3-year period under the EMI. Any further options granted to an employee over and above this sum would not qualify for EMI tax relief.
• Companies are free to set their own option period, but options must be capable of exercise within 10 years of being granted and be exercised within that period, or the tax benefits of EMI will no longer apply to the exercise of any outstanding options.
• Companies are free to set the option price per share, which may be more or less than the market value of the shares on the date the option is granted. The shares over which options are granted must be fully paid up ordinary shares. They can be a separate class of ordinary shares e.g. non-voting B shares. It is not possible to grant an EMI option over redeemable or convertible shares.

Once the structure of your EMI is finalised, and we have drafted the legal documentation, a separate option agreement is signed for each employee. This enables the company to tailor each grant of an option to the particular employee. However the main body of the agreement, i.e. most of the terms and conditions, will be uniform across all option holders. We draft the board minutes you need to set the scheme up officially. We also supply a template of an option offer letter for the company to give to the employees, together with a straightforward guide to the scheme to help the option holders understand the scheme and how they may benefit in tax terms.

• No income tax or national insurance is payable when EMI options are granted.
• When shares obtained on exercise are eventually sold the employee will be liable for capital gains tax (CGT), currently at the entrepreneur’s relief rate of only 10%. The employee can also use their annual CGT exemption.
• The costs of setting up and administering the EMI will be deductible expenses for the company against corporation tax. Also, after exit, the net market value of the options exercised by employees may be an allowable expense, similar to expensing normal employee remuneration.

If the option’s exercise price is set at the same or a higher price than the agreed market value of shares on the date that the option is granted, then no income tax or NI is payable when the option is exercised. Companies may set the option price at a discount to the agreed market value (or even at nil). However, where this is the case then, on exercise of the option, income tax will be payable on the discount (the excess of the market value of the shares on the date the option is granted over the exercise price paid by the employee).

Note on the changes in the October 2024 Budget

• The rates of Capital Gains Tax (CGT) have increased as follows:
• The normal rate on the sale of shares has increased from 20% to 24%
• Business asset disposal (‘entrepreneurs’) relief - available from two years from the date of grant of EMI options, and up to the first £1m of capital gains - the rate increases from 10% to 14% in April 2025 and to 18% in April 2026
• Although the CGT rates have increased, employees are still far better off using EMI options – without EMI they could pay around 60% PAYE/NI.

We send you a short questionnaire to complete, with everything explained very clearly. The sort of information we will need includes –

• The names of employees to be included in your scheme
• The number of share options to be granted to each individual (we can help with advice on this)
• The period over which the options will vest and the structure for the vesting (we will discuss all this with you)
• When an employee can exercise options and buy actual shares (e.g. any time after vesting, or only on a sale of the company)
• The price of the options, and the basis for that price (valuation)
• Your Articles and any shareholders' agreements and the last three years' accounts (or a shorter period if you are an early stage business or start-up)

• email office@millconsultancy.co.uk and we can also send you more information and guides, or call us on 01392 432654

• There is no need for prior approval of EMI share option schemes from HMRC – the company must simply notify HMRC within 92 days once an option has been granted. A company can however seek advance informal assurance from HMRC that it is a qualifying company (however this is rarely needed).
• A valuation of shares in connection with the EMI will need to be agreed with HMRC. This is important – it means that the market value of the shares is agreed by HMRC as at the date of the granting of the options and avoids any arguments later on when the employee eventually sells the shares on an exit.
• Companies who grant EMI options will need to make an annual return to HMRC by 7 July each year.

The employee must be prohibited under the terms of the grant of the option from transferring any of his rights under the option to anyone else. If the option is capable of being exercised after the employee’s death, it must not be capable of being exercised more than one year after. There are provisions in the legislation for dealing with the EMI options if the company that granted them is the target of a successful take-over. In certain circumstances the holder of the option can agree with the acquiring company to surrender his option in return for a replacement option to acquire shares in the acquiring company.

If at any time prior to the exercise of an option a “disqualifying event” occurs then, on a subsequent exercise of the option, an employee will be subject to income tax in the usual way as on the exercise of an unapproved share option. However, the gain will be calculated by reference to the market value of the shares on the date of the disqualifying event. Examples of disqualifying events include:

• The employee ceasing to be a qualifying employee
• The company ceasing to be a qualifying company

Here are the key stages in the setting up process, which normally takes 5-6 weeks:

1. We discuss your requirements, what you are seeking to achieve, and then run through the various alternative ways of structuring a scheme. Matters such as number or percentage of options, when the employees can buy their shares, what happens if they leave employment. We will take you through the main points that you should consider, and we'll provide advice as necessary.

2. We work out a valuation of the company for EMI purposes, agree it with you and then apply to HMRC for agreement of that valuation. This is essential because it sets a share valuation up front so that you and the employees know what their tax position should be, and how they could benefit. We will need your annual accounts for this and we will discuss your trading so we have a good understanding of your business and the market.

3. We draft the legal documentation, including the option agreement and board minutes. If you need other legal work done such as a new share class (e.g. because you want option holders to have non-voting shares) or a sub-division of the shares (e.g. from £1 to £0.01 per share to enable small percentages to be granted more accurately) we can do this too.

4. Once HMRC has approved the valuation and the legals are finalised, you issue the option offer letters to the lucky staff members and then the option agreements can be signed by the company and the employees. We help you with this part by providing a 'completion guide' so you just follow the steps laid out.

5. Once the options have all been granted, we then notify HMRC of the grants by completing an online procedure.

6. Payment of our fees - our fixed fee of £3495+vat is payable in two parts - £750 upfront on signing our engagement letter, and then the balance is due 4-5 weeks after that.

There are other types of shares and option schemes available. For example, if your trade doesn't qualify, you are a subsidiary or if the scheme is for a larger number of employees (i.e. >250), please let us know, as there are schemes such as growth shares, the CSOP (company share ownership plan), or an ‘unapproved’ scheme for non-executives and non-employees that we can help you with.

A share option agreement gives someone the legal right to buy a company’s shares in the future, but at a price that is fixed today. If the value of the company increases over time, the option holder could make a significant profit when they sell their shares, which make options very useful for companies that want to incentivise key employees.

Option schemes are very popular with entrepreneurial companies who can offer share options to help them employ talented staff. Many well-established businesses use option schemes to attract and retain key people. The chance to buy shares, to be a stakeholder and benefit in the company’s growth alongside the owners is a powerful motivation when offered in addition to the usual salary package. Aside from the modest set up costs, there are no cash costs associated with share options, so they’re not a drain on resources.

An EMI (Enterprise Management Incentive) share option scheme provides significant tax advantages to employees which substantially boosts the incentive value. Put simply, an ‘EMI’ scheme is by far the most tax beneficial structure for staff.

The EMI was introduced in 2000 to assist growing companies in attracting and retaining key employees and to reward those employees for taking the potential risk to work for such companies.

The main tax benefit of an EMI scheme is that employees do not have to pay the income tax that would normally be charged on the market value of any shares or options granted to them. If employees are given options under an approved EMI, they are only charged capital gains tax at 10% on the increase in value over what they pay for the shares (the option's 'exercise price'), so long as that price is at or above the market valuation of the shares on the date of granting the options.

This value is agreed upfront with HMRC as part of the process. Please also see our short explanatory videos.

A company ‘grants’ share (or ‘stock’) options to employees under a legal contract; a share option agreement gives employees the right to buy their company’s shares on or after a date in the future, but at a price that is fixed today. If the value of the company increases over time, the option holder could make a significant profit when they sell their shares. An EMI share option scheme provides significant tax advantages to employees which substantially boosts the incentive value. Put simply, an ‘EMI’ scheme is by far the most tax beneficial structure for staff. See our short explanatory videos.

Definitely. There is no risk to an employee in accepting share options, as there is no cost upfront and they do not have to exercise the options to buy shares if they don’t want to do so. However if the company’s share value has increased over the exercise price payable for the options, then the employee can obviously make a gain when their shares are sold, usually when the company is acquired. Under EMI, only 10% or 20% capital gain tax is payable on the profit.

This will depend on the rules of the particular EMI scheme at your company. Under the EMI legislation, if someone leaves employment then they are technically disqualified from holding EMI options in the company, so the options would normally just lapse on leaving. However, sometimes the scheme rules enable the company to allow ex-employees to exercise their options after departure, usually within 90 days, as exercise within this period will preserve the EMI tax benefits. For example, the rules may allow exercise if someone dies or is incapacitated (physically or mentally) and cannot work any longer, or they may give the board of directors a discretion to permit exercise in certain situations.

Under an EMI option scheme you can exercise your options to buy shares according to the vesting and exercise conditions in your option agreement. Most schemes allow you to purchase your shares either on certain specified dates, as the options vest (e.g. over a three or four year period after the options are granted), or most commonly when the company is sold on an ‘exit event’, i.e. when an acquirer buys more than 50% of the company’s share capital – a ‘change of control’.

You can therefore sell your EMI shares, but only under certain circumstances such as an exit event. Because your company is private, i.e. not listed on a stock exchange, you cannot offer or sell shares to an outside buyer without the company’s permission, and in fact the existing shareholders would have a first right to buy the shares anyway (this is called ‘pre-emption rights’).

You can only be paid dividends on EMI shares if a) you have exercised your options to buy actual shares, b) those shares have a right to dividend payments and c) the company approves a payment of a dividend on those shares (this is determined by the board of directors each year).

• No income tax or national insurance is payable when EMI options are granted.
• EMI options can be priced at a relatively low valuation.
• When option shares are sold the employee will be liable for capital gains tax (CGT), currently at the entrepreneur’s relief rate of only 10%, rather than income tax and NI (up to 60% tax!). An employee can also use their annual CGT exemption.
• Options provide a very tangible incentive for key employees to stay with the company. The prospect of a rewarding capital return within a foreseeable period strongly encourages retention of staff, especially as most option agreements provide that options lapse automatically if anyone leaves.
• It’s been shown that employees feel much more aligned with the interests of shareholders and the board if they have a tangible interest in the company’s ownership. It can be a great motivator if all stakeholders are working towards a profitable exit, with everyone focused on building shareholder value.

• Share options make an employee feel more appreciated, because they’re a benefit that can be awarded alongside the usual salary package and one that focuses on the longer term. It says ‘we want you to stay with us and help grow the business, because we really value your input’.

• See our short explanatory videos.

It’s difficult to see any downsides of EMI options. There is no risk to an employee in accepting share options, as there is no cost upfront and they do not have to exercise the options to buy shares if they don’t want to do so. This is why they are called ‘options’ – whether to exercise the right or not is completely up to the option holder.

There is no minimum holding period for EMI options as such, unlike some other share schemes. The only important time period for EMI is that there should be at least two years between the date of grant and the sale of the EMI shares in order to qualify for the 10% ‘entrepreneur’s relief’ rate of CGT. If the shares are sold less than two years after grant date, the CGT rate applicable to gains is still only 20%.

If the company grants more options, or issues more new shares (to an investor for example) then the percentage that an existing EMI option represents will be diluted, equally alongside all existing shareholdings and option holdings. So for example if you had a 2% option holding, and investors bought 15% new shares for cash in a funding round, then your 2% is diluted by 15% to 1.85%. However, bear in mind that the overall value of the company will have increased because of the money invested in the company, both in cash terms and because of the opportunity to grow the business further. So 1.85% may actually be worth more than the 2% was previously.

EMI is an option scheme where you would typically be granted options over shares that will be paid proportionally from the entire proceeds received when a company is sold. If you have a 2% option holding and the company is sold for £100m, you will get £2m. You will pay 10% tax on the overall gain (£2m less your total exercise cost).

A ‘growth share’ is not an option but simply a different class of ordinary share with different rights from the shares held by the existing shareholders. It may or may not have any voting rights or dividend rights, but the main point is that these shares can only share in a specified amount on a sale of the company. This means that growth shares are normally issued to employees at a very low price.

The rationale is that on a sale of the company, the growth shares will not share in the portion of the sale proceeds that represents the value of the company on the date the shares were issued. So if a company is worth £2 million today, and the growth shares are issued today (and are 5% of the total equity), and the company is sold in five years for £5 million, the growth shareholders get 5% of the £3 million excess over the original valuation of £2 million (the ‘the exit proceeds hurdle’), so they will share £150k. The tax liability would be 20% CGT on any gain.

Yes, and the ‘exercise price’ or ‘strike price’ of the shares will be set when the options are granted. The price will depend on what the company believes is appropriate, usually taking into account the valuation agreed with HMRC (see below). By law, as a minimum, the price must set at the ‘nominal value’ of the shares (typically 1p each or lower).

A share option agreement is a legal contract that grants the right to buy a company’s shares in the future, but at a price that is fixed today. If the value of the company increases over time, option holders could make a significant profit when they sell their shares. Conversely if the shares don't go up in value there is no obligation to buy the shares, so an option is basically risk free.

As an example let’s say that you're given an option to buy 1000 shares at £5 each, at any time in the next ten years, so long as you are still an employee when you want to buy them. After six years, the company is sold to a big competitor, at £50 per share. You exercise your option and buy your shares, which costs you £5,000, and you then sell them to the buyer for £50,000, making a gain of £45,000.

EMI options are popular with growing companies who can offer them to attract and retain talented staff. The opportunity to buy shares, to be a stakeholder and benefit in the company’s growth alongside the owners, provides a powerful motivation when offered in addition to the usual salary package.

An option agreement will be formalised in a legal contract, which will include rules and conditions. Option scheme design is very flexible, for example in specifying when the employee can actually buy the shares. In terms of protecting the company, the agreement will also cover issues such as what happens if an employee leaves the business; usually they would lose their options or shares automatically or subject to the board’s discretion. The option shares can also have different rights, for instance they could be non-voting.

Outside of an EMI scheme, an employee who makes a profit on their company’s shares would pay income tax and possibly national insurance on the profit - this could be 60% or more in total. Instead of a big tax hit, the EMI replaces it with a 10% capital gains tax charge.

Also see our short explanatory videos

An EMI option holder will pay the following CGT rates on gains (total sale price of the EMI shares less the total exercise cost):

• If the sale is more than two years from the date that the option was granted, the tax rate will be 10% on the first £1 million of gains, and 20% above that.
• If the sale is less than two years from the date that the option was granted, the tax rate will be 20% on the total gain.

As an example let’s say that you're given an option to buy 1000 shares at £5 each, at any time in the next ten years, so long as you are still an employee when you want to buy them. After six years, the company is sold to a big competitor, at £50 per share. You exercise your option and buy your shares, which costs you £5,000, and you then sell them to the buyer for £50,000, making a gain of £45,000. Under EMI you pay only a 10% capital gains tax charge.

See also scheme examples here EMI share option scheme examples

An EMI option holder will pay the following CGT rates on gains (total sale price of the EMI shares less the total exercise cost):

• If the sale is more than two years from the date that the option was granted, the tax rate will be 10% on the first £1 million of gains, and 20% above that.
• If the sale is less than two years from the date that the option was granted, the tax rate will be 20% on the total gain.

See also Tax advantages of EMI share options

For an EMI scheme, the lower the share price the more beneficial it is for the employee - first, the cost for them to buy the shares is lower, and second, they don’t pay so much tax. So in assessing the company we would avoid ‘over-egging’ the value and instead look closer at the real risks and downsides that might exist.

Because an EMI valuation is based only on available historical accounts, we would normally base the valuation on a weighted average of EBITDA or profit after tax over the last three or four years, having made any adjustments for items such as director remuneration and bad debts. We would then consider what an appropriate multiple to apply to the average to produce a market valuation for the entire business (i.e. 100% of the shares). The multiple is derived from a review of listed companies and transactions in similar market sectors as the business being valued.

We can then apply a minority shareholding discount to the full valuation because an option holder will typically be granted options over a small percentage of the shares and therefore they have very little influence or control compared with owning 100% of the equity, and furthermore there will likely be restrictions on the option shares e.g. they may be bought back at a low price if the employee leaves the company, or they might be non-voting shares.

In a situation where a company has received external investment funding, from business angels or venture capital, an investment valuation will have been agreed and the funding amount then determines the equity percentage received by the investors. HMRC views the investment price per share as the starting point for the valuation for EMI, but there will be several factors that can justify a discount from the investment price so that the EMI value per share agreed by HMRC ends up lower than the investment price. Such factors include investor liquidation preferences for preferred shares, board representation, investor consents, warranties and other protections, and SEIS/EIS tax reliefs.

A valuation is confirmed as agreed by HMRC and will be valid until a sale of the company or for a maximum of 10 years. As an example, let’s say the commercial value of a company could (optimistically) be £3 million if it was sold tomorrow to a very interested competitor. This is however, an ‘unknown’. For EMI purposes, we might value the company at say £1.5 million. For the EMI options, where an employee is getting say 2% of the shares, that value could be discounted by 75% to as low as £375k. This delivers a considerable benefit to the employee option holders.

This very useful guide can be found at https://www.gov.uk/hmrc-internal-manuals/employee-tax-advantaged-share-scheme-user-manual/etassum50000