My business has made an increased profit this year. I would like to reward my employees. What can I do to reward them and be tax-efficient for my company and the employees?
An employee share scheme can help a company’s owners transfer ownership to those working in the business, whether that is to a family member or to enable a management buyout. You can sell your company gradually and get tax relief while doing this.
The tax relief available depends on the share scheme, for example, deferred capital gains tax on the sale of shares through an HMRC-approved share incentive plan can provide tax advantages to employees and company directors. Companies must operate these plans on an all-employee basis for those who have been employed at the company for a certain time.
You need to be aware that schedule 2 of the Finance Bill 2011 was published recently. This can cause an automatic income tax and National Insurance charge to arise on “disguised or deferred remuneration” arrangements. It catches the following situations:
- Earmarking funds for an employee (in effect, reserving them for the employee, without any formal declaration of ownership, which could include shares intended to meet a share award in the future).
- Pay money or transfer an asset for an employee’s benefit.
- Make an asset available for an employee’s benefit.
When assessing any scheme, a company therefore needs first to check whether it works technically and, second, consider if HMRC can cut through the details and just tax the scheme as if it were a straight payment of cash bonuses. If the sole purpose of the scheme is tax avoidance, income tax and NICs are due on the underlying bonuses being received as if they were outright cash payments.
The Finance Bill puts an end to benefits such as employee loanback and unapproved employee benefit schemes. Share option schemes are unaffected and there are specific exemptions for regulated schemes, share incentive plans, save as you earn sch-emes, company share option plans and enterprise manage-ment incentive schemes.
The employee benefit must be subject to certain conditions such as:
- The scheme must specify a date for the receiving or vesting of the reward. This vesting date must be at most five years from the date of grant. Where this condition is fulfilled, if vesting does not take place within five years of the date of grant, a part 7A charge will arise unless an event has happened which means there is no possibility of the employee (or a person linked with the employee or chosen by the employee) receiving the reward.
- The nature of the deferred reward must be such that if it is provided on or before the vesting date, it will be chargeable to tax as employment income.
- The deferral or avoidance of tax must not be the main purpose or one of the main purposes of entering into the arrangement.
For a share incentive plan, shares must be kept in the scheme for five years and the employee will not pay income tax, National Insurance contributions or capital gains tax on their value when they acquire the shares. If the shares are taken out of the share incentive plan early, income tax and NICs will be due.
There are four ways in which employees can receive shares under share incentive plans:
1: The company can give employees up to £3,000 worth of free shares in any tax year.
2: Employees can buy shares out of their salary before deduction of income tax and NI contributions. Employees can spend up to £1,500 in any tax year on partnership shares (or up to 10 per cent of their income).
3: You can give employees up to two free matching shares for each partnership share they buy.
4: If employees get dividends from free partnership or matching shares, they can use them to buy more shares under the plan. They will not have to pay income tax if they keep the dividend shares for at least three years. Employees can invest up to £1,500-worth of dividends each tax year in this way.
You may be relieved to know that the Finance Bill does not treat salary sacrifice for tax-efficient benefits as tax avoidance.
Kim North is managing director of Technology & Technical