Tax efficient ways to grant options
AM writes: I took on a principal at my architects' practice a year ago and agreed that she would get some share options at the end of her probationary period. I have in mind to give her options for 10% of the company based on a current balance sheet value of £270,000. Can I grant an option without agreeing anything with HM Revenue & Customs (HMRC)?
Share options can be a great way to reward the key employees of a company in a tax efficient way, writes Jon Sutcliffe, partner at Kingston Smith LLP. It is possible to grant an option unapproved by HMRC, but the income tax charge on employees when they exercise the option can be a drawback.
HMRC-approved schemes have a favoured tax treatment and Enterprise Management Incentives (EMIs) are a popular alternative to unapproved options. Provided the company and the individual meet the qualifying criteria, and the exercise price is at least equal to the value of the shares at the time the option was granted, then no income tax will be payable by the employee on either the grant or the exercise of the options. Capital gains tax will be due on disposal of the shares, based on the growth in value from the grant of the option. However, once the shares have been held for 12 months, Entrepreneurs' Relief may be available to cut this tax charge to 10%.
It is possible to obtain agreement on the value of EMI options from HMRC in advance, and this is recommended. The cost of dealing with HMRC has to be balanced against the tax cost to the employee of taking an unapproved option.
The value of shares acquired under any style of option will be based on business profits rather than the balance sheet total.
It is necessary to notify HMRC once EMI options have been granted, and annual returns of options in existence are required whichever type of option you grant.