Setting up an Enterprise Management Incentive Scheme

Setting up an EMI Scheme can get complicated, which can result in time and money wasted. Having set this up for thousands of businesses, we thought it was time to create a simple-to-follow guide which can be a good starting point for growing businesses. Our EMI Specialists have worked hard to curate this guide to help you in setting up an EMI share option scheme.

Intense competition amongst startups across the globe creates a huge demand for highly skilled labour. To be better than the next company, employers want to hire and retain the best employees in the market. This demand creates higher expectations from employees in terms of pay packages; money is no longer the only key motivator. Therefore, employers have to think outside the box to design attractive pay packages that incentivise employees to stay for longer and work harder. A few examples of such incentives include Gym Memberships, Free Breakfasts, Health Insurance, Training budgets, etc. 

An effective way for employers to incentivise their staff is through different schemes and plans offered by the government. Small businesses can use different schemes, but the four most advantageous ones in terms of taxes are:

1. Save as you earn plans
2. Company share options
3. Share incentives plan
4. The Enterprise Management Incentive (EMI scheme)

• 6 Innovative Share Incentive Schemes for UK Tech Firms
• Enterprise Management Incentives – A Complete Guide to EMI

Setting up the EMI Share Option Scheme 

Employee share option schemes can get complicated as various issues need to be considered, such as company law, tax law, and employment law. Sometimes, the language of the scheme is misunderstood by the employer and employee, which can lead to errors, confusion, and employment disputes. 

Consult an Accounting firm that has experience in designing an effective EMI scheme to help make the process easier.

Articles and Rules   

When designing an EMI Scheme, the employer needs to examine the effects of the share scheme on the rights of pre-existing shareholders. They also need to update or amend existing shareholder agreements to include the EMI scheme rules and an option agreement. 

Under an exit-based EMI scheme, business owners don’t have to worry about their employees holding any shares once the company is sold, as their options vest and instantly sell the shares to the buyer. 

In case you decide to offer your employees EMI options that vest over a specific period, you need to make some amendments to your Articles to include the following: 

• Provisions to handle the leaving of employee shareholders
• Pre-emption rights for employee shareholders
• Rights of transfer
• Beneficial ownership
• Disputes between shareholders

Once you have worked out and included all the amendments mentioned above, you will need to look into the tax position in accordance with the following key factors:  

• The tax legislation of Part 7 ITEPA, 2003
• The Company Act of 2006
• Formulating your scheme rules
• Vesting conditions to determine when shares can go up
• Those who qualify for shares and those who cannot 
• Dealing with disputes among shareholders
• Leavers
• Valuation
• Takeovers

• Learn how you can boost your startup by following our tips.

Tax 

The employer is required to make sure that the EMI scheme is compliant with all tax legislation so that the qualifying conditions for the EMI are fulfilled. The employer has to take into consideration what other taxes the scheme interacts with, ensure that all extra NIC charges are covered, and understand what qualifies for Corporation tax relief. Speaking to a specialist Tax Accountant can add value to the process by making sure that you are extracting maximum benefit from the scheme setup.

• Claiming Tax Relief on Employment Expenses
• A Complete Understanding of Corporation Tax for Businesses

Valuation 

The market value of your existing shares at the time an EMI option is granted should be agreed upon with HMRC. This should be agreed upon even before any options are granted. Most employers prefer this method because it gives some certainty regarding future tax charges. 

There isn’t a straightforward method to value employee shares because each company is unique. As a result, each company may have different scheme rules and company articles that may denote different things. If you overvalue your shares, your employees may get penalised heavily. On the other hand, if you undervalue your shares,  HMRC might reject your valuation. 

It’s prudent that you get the valuation done by either a corporate finance specialist or a recognised Chartered Accountant, as they will follow all required steps and get the required pre-approval from HMRC on the valuation to avoid any future disputes.

Timings

Creating a share option scheme might take some time, but employers must do this properly, regardless of how long it takes, as they need to ensure that all of their requirements are reflected in the scheme agreement. It is prudent that employers engage specialists who can help set up scheme rules, amend articles, and aid in passing necessary resolutions. The time involved in setting up these additions and amendments might vary greatly depending on how complicated and bespoke the amendments are. 

Valuations may take several hours or days, depending on the company’s size and what information is available in the accounts. 

Planning Challenges

An employer might offer its employees shares in the beginning, but then choose to offer EMI options instead. Often, they might set the shares so that if they are acquired, they have little capital value. If an employee discovers that their share options have little capital value, this can have a negative impact on their relationship with their employers. 

That’s why it’s essential that these options have clear vesting conditions that are easy to understand, implement, and calculate. The terms of the scheme should be as transparent as possible. Speak to your accountant to design proper communication around these schemes in order to avoid future challenges.

Compliance with the HMRC

Employers are responsible for informing HMRC electronically through ERS within 92 days of granting the EMI options. If the company has fewer than 30 employees, then it can inform HMRC directly on its website. If the company has more than 30 employees, it must fill in the notification template before uploading it.

After employers notify HMRC, they will have to file their annual tax returns via ERS at the end of every tax year. This will continue until the scheme expires.

We advise you to speak to a competitive Startup Accounting Firm to get more knowledge about how you can ensure full compliance with HMRC. 

Limitations

According to the legislation, no individual is allowed to have options worth more than £250,000 in a rolling period of three years.

Also, the company is not allowed to have outstanding EMI options worth more than £3 million at any point in time. Any options that exceed the £3 million limit are considered non-qualifying options.

Exercising options

If an employee wants to exit the EMI scheme, they can do so after their options have vested over an agreed vesting period. 

If the employer is selling the company, then the employee’s options automatically vest once the company is sold. The exercise can be structured so that it takes place on the same day as the sale. This means that the employee isn’t required to front the purchase price. Alternatively, employers can establish an internal market using an employee benefit trust, which can buy the shares and hold them to grant further options later on. 

This might be attractive if the main point of using the EMI is tax-efficient bonus payments. Of course, the shares could be held and used to receive dividends (if permitted). It will all be down to what employers and their employees are looking to achieve.

Key Takeaway

EMI schemes can be a great option to retain and incentivise valuable employees. However, the language of the scheme needs to be precise in order for it to be effective. Otherwise, ambiguous terms can lead to disputes between employees and employers, which can have the opposite effect on the loyalty of employees. 

Clear House Accountants is a specialist services provider for Accountants in London. Our in-house Tax Accountants are trained to help you design the most tax-effective solutions for your business and your employees.