Share and Share Alike – Do’s and Don’ts in ensuring your Founder Shares and Incentive Shares are Tax Efficient
Young media and tech businesses are all about growth and with the Government providing an incentive with a 10% capital gains tax rate for entrepreneurs, the objective is often an exit via a sale of the business.
It is often overlooked that what the Government has given via a beneficial CGT regime it has taken away through a complex income tax regime for ‘employment-related securities’. The regime taxes value passed to employees via shareholdings in the employing company and applies to employees and directors (with limited exceptions for shares acquired from family and personal relationships).
Typically founder and incentive shares fall into both regimes and unexpected tax charges can arise.
Here are some do’s and don’ts to avoid an income tax charges arising on shares in your company:
- Don’t forget that founder shares are not exempt and must be reported to HMRC. Consideration must be given to whether founder shares are ‘restricted securities’ within the regime and whether any permitted tax elections should be made to avoid unexpected tax charges on a future sale (Tip – they often are, elections usually should be made – and there is only a 14 day window to make them!)
- Don’t delay in issuing shares to fellow directors or founders on starting a new business – it is easy to forget, but once values start to rise any new share issues may be subject to employment taxes irrespective of if you are simply implementing the intended structure.
- Don’t rely on a gentlemen’s handshake in respect of grants or gifts of shares to key individuals, or on ‘behind-the-scenes’ reallocations of sale consideration. Employment taxes are likely to arise in both situations. If shares are too valuable to issue without an upfront income tax charge, consider ‘growth shares’ which have low initial value but which could produce a significant return on a sale.
- Don’t assume that a reorganisation of the company (e.g. putting in a new holding company) won’t give rise to employment tax charges. The rollover provisions for employee shares are not as generous as for CGT and need careful consideration in every case.
- Do consider implementing a tax-effective share incentive scheme such as Enterprise Management Incentive (EMI) Options. EMI Option shares qualify for entrepreneurs’ relief, can contain performance criteria and can be made conditional on the individual remaining in employment until a sale of the business. There is little to lose and a lot to be gained by using EMI Options.
- Do consider rewarding contractors with options. Typically a contractor will only incur income tax on the value of the option received which is likely to be low. When the option is exercised and the shares sold the contractor should only pay CGT.
- Do make sure your tax reporting of employee shares is kept up to date. Penalties can be imposed for late or incomplete reporting and it can be a headache to sort out on a sale of the company.
- Do take tax advice when dealing with employee shares. Advice at the outset of a new business and on subsequent shares issues can prevent ‘dry’ tax charges and ensure a CGT outcome.
For advice on tax on employee shares and on share schemes please contact Elizabeth Middleton on +44 (0)1892 506 080 or at firstname.lastname@example.org
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