HMRC Consultation on Unapproved Employee Share Schemes

A consultation is currently in progress relating to proposed changes to the rules on unapproved employee share schemes and employment-related securities.

The changes proposed could be quite radical and therefore advisors who deal with such schemes would be wise to consider responding to the consultation. Eaves and Co are currently preparing our own response to the proposals and we would welcome any further feedback that you may have, to be incorporated into our response.

The Proposals

The summary of the proposed changes is as follows:

  • Individuals would potentially be able to choose whether the tax charge on employee shares arises at the time they are acquired or, at the time at which they could be sold for their “unrestricted market value” (when they become ‘marketable’). Income tax and NICs would then be payable at this time.
  • The rules on marketable shares could potentially mean that shares in private companies (without an EBT) would not be treated as marketable until arrangements were put in place for a sale of the shares. This would potentially enable tax charges to be significantly deferred compared to the current rules, although an election could still be made to pay tax upfront.
  • Changes to the rules on readily convertible assets (RCAs) which determine when NICs are payable on employee shares. The proposals are that all such shares would be RCAs (with NICs payable at the point at which the shares became ‘marketable’ unless an election was made to pay tax upfront on similar terms to a current s.419 election.
  • Dividends and other income received from employee shares before they became ‘marketable’ would be taxed as employment income

Whilst the proposals seek to provide a simplification of the current rules, it remains to be seen whether this will be achievable bearing in mind the necessary anti-abuse clauses that will no doubt be required to prevent unforeseen uses for such rules. Our thoughts are that these proposals require detailed critical thought.

The consultation document proposes a ‘simplification’ in order to encourage the use of employee share ownership. Whilst there may be some cases where deferring an upfront tax charge might make such schemes more attractive, the fact that all of the uplift would be taxable as employment income might raise questions about what the purpose of entering into such schemes would be.

Similarly, one wonders what the policy thinking behind charging dividend income as employment income is, and how such a proposal would encourage the use of share schemes? If it is felt that dividends are taxed at the wrong rate, why are complicated rules like these proposed, rather than simply raising the tax rate on dividends?

As advisors, it will be important to ensure clients are fully aware of the pros and cons of making elections under these rules and the impact of paying tax at employment income rates on any profits and/or dividends arising on the shares if no elections were made.

Do you think these changes would improve the position for unapproved share schemes and encourage more use of such schemes, or would the new position with potentially increased amounts taxed as employment income have the opposite effect? Please let us know in the comments section below.

HMRC Criticised in Share Scheme Tribunal Case – Benedict Manning V HMRC

HMRC were criticised for their handling of a recent employee share scheme case by the tribunal judge, who noted that they had conducted their investigation “without apparently troubling to look at the scheme rules”.  The recent case is not the first time tribunal judges have been critical of HMRC’s conduct.

 

The case in question involved an employee share option scheme.  The taxpayer exercised his share options in October 2007, paying £7,636 for shares worth £111,579.  The scheme rules stated that the taxpayer should pay over the PAYE due on the exercise within 90 days, but he was not told the amount to pay by his employers until March 2008.

 

HMRC charged tax on under ITEPA 2003, s.222 on the basis that this was not within the 90 day limit imposed by the scheme rules.  The taxpayer appealed as he could not have paid the PAYE before being told the amount to pay.

 

The tribunal allowed the appeal, agreeing with the taxpayer that the date of exercise could not be the relevant date as he was not informed of the amount to pay until March 2008.

 

The tribunal judge stated that s.222 was introduced to target grossly abusive schemes and that there was nothing abusive about this scheme.  The case again shows that it often pays to challenge HMRC, especially when they are being over-zealous in their application of the law.

Entrepreneurs’ relief on Enterprise Management Incentives (EMI) share options

One of the problems with Entrepreneurs’ relief as opposed to the old rules on Business Asset Taper Relief, was that employee shareholders could struggle to acheive the relief due to the 5% holding requirement.  This position has now been relaxed where shares are acquired through an Enterprise Management Incentives scheme, meaning it should now be easier to obtain Entrepreneurs’ relief on Enterprise Management Incentives (EMI) share options.

Draft proposals under the Finance Bill 2013 will remove the requirement for a person to hold at least 5% of the ordinary share capital of a company in order to qualify for entrepreneurs’ relief on shares acquired through a qualifying EMI share option scheme.

The legislation will also be changed to allow the period in which the options are held to count towards the 12 month holding period required to qualify for entrepreneurs’ relief.

These announcements will therefore increase the already highly efficient tax treatment of EMI schemes, and potentially enhance the incentivisation of employees under such schemes.  Even where the share option scheme itself is not desired, EMI schemes could potentially be used to enable employees to acquire shares that will qualify for Entrepreneurs’ relief, as there is no minimum exercise period for EMI options.

Changes to Corporation Tax deductions available for employee share schemes

Under current legislation a corporate tax deduction is given on shares acquired through employee shares schemes. The amount of the deduction available is the amount that is chargeable to income tax when the shares are acquired by the employee or the amount that would be chargeable if the employee was a UK resident and other reliefs were unavailable.

The legislation introduced under Finance Bill 2013 clarifies that if relief is given under Part 12 CTA 2009 it is not possible to claim any other deduction for Corporation Tax in relation to those employee shares or options.

The legislation also highlights that no Corporation Tax deductions are available to a company in relation to employee share options unless shares are actually acquired by an employee in accordance with the option.

It appears these provisions are largely to prevent avoidance and should not affect genuine planning using tax efficient options such as EMI schemes.