Enterprise Management Incentives (EMI) share option schemes are used commonly because they are tax advantageous for both the company and the employees. Through tax incentives, the government hopes to increase direct ownership by employees.
This article explains the income tax and National Insurance contributions (NICs) treatment of EMI options, specifically the charges that might arise when:
- the option price is less than market value of the shares when they are granted;
- the shares under option are free; and
- there is a disqualifying event.
At the grant of the option, no income tax or National Insurance contributions are due.
At the exercise of an EMI option (if exercised within 10 years, there having been no disqualifying event), there will be no income tax or National Insurance contributions due, provided that the employee buys the shares at a price at least equal to the market value they had on the day the option was granted.
If the option is a replacement option, it must be exercised it within ten years of grant of the original option.
Shares bought at less than market value and discounted options
If the employee buys shares at less than their market value, there will be an income tax charge when the option is exercised. There will also be National Insurance contributions if the shares are considered “readily convertible assets”.
The taxable amount is the lower of:
- the amount of the discount, or
- the difference between the market value of the shares at the date of exercise and the amount paid for them.
Shares given freely
If the shares were given for free, then income tax is still payable on the market value of the shares at the time the option was granted, or if lower, the market value of the shares at the time the option is exercised.
Exercising an option after ten years
If an employee exercises the option after ten years, there will be no tax relief when the option is exercised.
Shares deemed to be readily convertible
If there is an income tax charge on exercise of the option, and shares acquired under the option are deemed to be 'readily convertible assets' and the employer must operate PAYE and account for National Insurance.
Readily convertible assets are shares that can be sold on a recognised stock exchange.
A number of changes or developments can disqualify an option from EMI relief. These are called disqualifying events and include:
- loss of independence;
- the company no longer meets the trading activities requirement;
- the employee is no longer eligible;
- the terms of the option change;
- the share capital of the company changes;
- a conversion of shares takes place; or
- a grant of a CSOP option takes the option holder over the £100,000 limit.
Further information and documents
Net Lawman offers a number of share option contract templates, including some that are suitable for granting options to employees.