Rewarding, incentivising and retaining key people is essential for businesses looking to ensure their biggest assets – their people – are all putting in the same direction. In this blog we have looked at Employee Ownership Trusts, which we expect to be increasingly popular ways for owners to dispose of their businesses to their employees.
Employee Ownership Trusts secure a tax incentivised route to employee ownership which is effective both for the seller and for the buyer – the seller with a full capital gain tax relief, the employees effectively gaining a share in the business, and bonuses, in ways which are highly tax efficient, and potentially remunerative. We explained that the seller gets full market value, as well as tax relief – so it doesn’t require an act of philanthropy.
Already popular are EMI schemes – another route to employee ownership, though often a route to employees benefiting from an “exit” – often a sale. EMI - Enterprise Management Incentive – schemes are designed for companies with assets of £30m or less, and allow companies to grant each employee options up to the value of £250,000 in a three-year period.
So why do this – why not just give employees shares?
The purpose of EMI schemes is to incentivise and retain. If shares are just given to employees, there are a number of issues – the first will be that the shares will be treated as remuneration, so if the company already has a value, then they will be subject to income tax and national insurance. But also a company might be wary of giving shares, as such – they are easier to give than to get back; and fragmenting shareholding might be a problem in attracting future investment, or in focused growth (though shares can be non-voting). You have already rewarded the employees. What next?
The EMI scheme allows options to be granted without any tax penalty, which can then be exercised either on exit (usually sale, but sometimes investment or public share offering) or on reaching performance thresholds.
The first are more common; the way these work is that if an exit happens, this triggers the options. The employees then have shares, which are immediately sold, and that should generate a tax-beneficial surplus for the employee, set off against the value of the shares when the options are granted. If the employees leave in the meantime, the options never become exercisable – much cleaner than having to get shares back. The incentive on the employees is very clear – to stay, and to do all possible to grow the value of the business.
EMI schemes need some administration – a valuation agreed with HMRC at the outset; registration with HMRC when granted; and an annual report to HMRC. Certain documentation is needed at the outset, for the company and employees. However – this is a well-trodden path, and having been involved in setting up many EMI schemes, we can confirm that this is not onerous, and these can be implemented cost effectively and over quite a short period.
These address different issues from Employee Ownership Trusts, and are for a different part of the lifecycle of a business. They are only available to business which are not excluded activities. Companies that work in ‘excluded activities’ are not allowed to offer EMIs. Excluded activities include:
- property development
- provision of legal services
- ship building
EMI Schemes are popular with investors, too – they show that the company has taken steps to incentivise and retain its key employees, and that the value is less likely than may otherwise be the case to walk out of the door. EMI schemes are certainly worth looking at – and noting to be afraid of - in growing business. We are used to working closely with businesses and their accountants to achieve these; as you grow, they are certainly worth considering.
Paul Berwin is Senior Partner at Bewrwins