Enterprise Management Incentive (EMI) schemes, including various enterprise management incentives and EMI option schemes, require careful management throughout their lifecycle. Understanding and adhering to EMI scheme rules is crucial to define the specifics of an EMI share plan, including elements like leaver classifications and the timing of option exercises. Time-based vesting schedules and performance conditions need regular monitoring to ensure compliance with HMRC requirements and to maximise benefits for both companies and employees.
Core Principles of EMI Share Option Plans
Enterprise Management Incentive Schemes (EMIs) offer significant tax advantages compared to other share arrangements. Options typically vest over time, with employees gradually earning the right to purchase shares at a predetermined price. Most EMI schemes implement a vesting schedule spanning 3-5 years.
An EMI share scheme outlines eligibility criteria, benefits for both employers and employees, and the necessary documentation for setting up an EMI plan. The benefits of EMI include wealth-building potential and significant tax relief for employees, while helping employers attract and retain talent, align interests, and gain corporation tax relief. It emphasises the tax efficiency of EMI options compared to other schemes and details the legal steps required for establishing and registering the scheme with HMRC, highlighting its attractiveness for UK-based SMEs.
Time-based vesting often follows a pattern where 25% of options vest after the first year (cliff vesting), with the remainder vesting monthly or quarterly thereafter. This encourages employee retention and long-term commitment.
Performance-based vesting can also be incorporated, linking option exercise to specific company milestones or individual achievements. This creates alignment between employee rewards and business success.
Regular reviews of your EMI scheme are essential to ensure it continues to meet company objectives as your business evolves. The scheme should be flexible enough to adapt to changing circumstances whilst maintaining compliance.
Eligibility Criteria and Advance Assurance
To implement and maintain a valid EMI scheme, your company must be one of the qualifying companies that meet specific eligibility requirements. Your business must have gross assets under £30 million and fewer than 250 full-time employees. Additionally, your company must be independent and conduct qualifying trading activities.
A company must have a permanent establishment in the UK to qualify for the benefits of the EMI share scheme. It is crucial to understand what constitutes a qualifying trade to ensure your company meets the necessary criteria for EMI options.
Seeking advance assurance from HMRC is highly recommended before establishing your EMI scheme. This process confirms your company’s eligibility and provides certainty regarding the tax treatment of options.
Employees must work at least 25 hours weekly or 75% of their working time for your company. Each participant can hold options with a maximum value of £250,000 at grant, while the company-wide limit is £3 million.
You must notify HMRC before 6 July following the end of the tax year in which the options were granted using the ERS Online Service. Failure to do so may result in loss of tax advantages, so calendar reminders for these deadlines are essential.
Key Stakeholders: Employers and Shareholders
EMI schemes create a framework where employers, employees and existing shareholders all have important roles and considerations. As an employer, you’ll need to establish clear terms for option holders, including exercise conditions and what happens if they leave the company. Employees can acquire shares in their employer company through these options, which can be highly beneficial.
Existing shareholders should understand how the EMI scheme might dilute their ownership. A well-designed scheme balances shareholder interests with the need to incentivise key staff. Communication with shareholders about the strategic benefits of the EMI scheme is crucial for gaining their support.
Board and shareholder approvals are typically required before implementing an EMI scheme. These approvals should be properly documented as part of your company records. One significant advantage of EMI schemes is the exemption from employer’s National Insurance Contributions, which can reduce overall tax costs for the employer.
Regular valuations of your company shares are necessary to ensure option exercise prices remain appropriate. HMRC typically accepts valuations for 90 days, after which you may need to revalue shares before granting new options.
Tax Considerations Throughout the EMI Lifecycle
EMI options offer significant tax advantages compared to other share schemes, including corporation tax relief for employers. EMI options can provide a corporation tax deduction for employers when employees realise a gain on qualifying shares. Understanding the tax implications at each stage will help you maximise benefits and avoid unexpected liabilities, making EMI schemes the most tax efficient option for UK-based businesses.
It is crucial to understand EMI tax treatment to ensure compliance with HMRC’s guidelines and avoid disqualifying events that could negate favourable tax treatment.
Income Tax Responsibilities and PAYE Requirements
Income tax on EMI options works differently than with regular share options. When you exercise qualifying EMI options, you typically don’t pay income tax on the difference between what you pay for the shares and their market value at grant. However, it is crucial to notify HMRC about the EMI options issued by the grant date to ensure compliance with regulatory deadlines.
However, if the exercise price is less than the market value at grant, you’ll pay income tax on this difference. The corporation tax relief is calculated based on the difference between the market value of the shares and what the employee pays for them, emphasising the financial benefits of these arrangements for both employees and employers. Additionally, if you exercise the option more than 90 days after leaving employment, you may lose EMI tax advantages. The date of grant is particularly important as it marks the beginning of the period within which you must notify HMRC to maintain the tax-favored status of the options.
Companies must report EMI option exercises to HMRC through their annual returns. If income tax is due, employers must operate PAYE on the taxable amount.
Key reporting deadlines:
- Annual EMI returns due by 6 July following the tax year end
- Form 42 for non-tax advantaged arrangements
- EMI option grants must be registered with HMRC by 6 July following the tax year end
Capital Gains Tax and Tax Year Planning
When you sell shares acquired through EMI options, you’ll likely face Capital Gains Tax (CGT) on any profit made since exercise, calculated based on the actual market value (AMV) of the shares at the time of sale.
Companies offering EMIs can benefit from corporation tax relief when employees acquire qualifying shares upon exercising their options.
The tax calculation is:
- Sale proceeds − (Exercise price + Any amount subject to income tax)
EMI shares qualify for Business Asset Disposal Relief (formerly Entrepreneurs’ Relief) if:
- You’ve held the option for at least 24 months before selling
- You remain an employee during this period
This reduces your CGT rate from 24% to 14% on qualifying gains up to £1 million, considering the current market value of the shares.
National Insurance and Employer’s NIC Implications
National Insurance Contributions (NICs) apply to employment-related securities like share options, but EMI provides significant savings here too. One of the major benefits is the exemption from employer’s National Insurance Contributions, making it financially efficient for businesses.
EMI options must be granted over fully paid and non-redeemable ‘ordinary shares’ to meet eligibility requirements.
No employer’s or employee’s NICs are due on the grant of EMI options. When exercising qualifying options, neither you nor your employer pays NICs on any gain, contributing to lower tax costs.
If income tax applies (e.g., when exercising beyond the 90-day post-employment window), then NICs will also be due. The employer must account for both employer’s and employee’s NICs through PAYE.
Many companies implement NIC agreements where employees agree to reimburse any employer’s NICs that become payable. These must be properly documented before the liability arises.
Remember that HMRC closely scrutinises EMI arrangements, so keeping detailed records of all valuations and transactions is essential.
Best Practices for Managing EMI Options Over Time
Managing your EMI options efficiently requires ongoing attention to ensure you maintain tax advantages and maximise value. Proper record-keeping, understanding key timelines, and ensuring timely EMI notification to HMRC are essential for success.
Failing to notify HMRC within the stipulated timeframe could result in the risk losing valuable tax benefits associated with the EMI scheme.
It is also crucial to seek professional advice to ensure compliance with all requirements and to tailor the EMI scheme to your specific business circumstances.
Exercisable Events and Vesting Schedules
Your EMI option scheme should clearly define when options become exercisable. Most schemes use time-based vesting schedules, typically over 3-4 years with either monthly accrual or a one-year cliff followed by monthly or quarterly vesting. Additionally, ensure that the criteria for who can be granted EMI options are well-documented, as these options allow employees to purchase company shares at a designated future date after fulfilling certain conditions.
Be sure to document specific exercisable events in your option agreements, including:
- Company sale or merger
- Initial public offering (IPO)
- Specific performance milestones
- Vesting acceleration triggers
Keep detailed records of each employee’s vesting status and regularly communicate progress to option holders. This transparency helps maintain motivation and prevents confusion at exit events.
Consider implementing a robust administration system to track option grants, vesting schedules and exercise windows. Digital equity management platforms can simplify this process considerably.
Maintaining EMI Tax Advantages
To preserve valuable EMI tax advantages, you must maintain compliance with HMRC requirements throughout the life of your options. This includes adhering to the EMI qualifying conditions, which affect the taxation status during different stages of the EMI option lifecycle.
Companies must notify HMRC promptly of any ‘disqualifying event’ to maintain tax advantages.
Key actions include:
- Annual reporting: Submit Form EMI40 to HMRC by 6 July each year
- Valuation updates: Refresh company valuations regularly, particularly before new option grants
- Employment monitoring: Track working time requirements (at least 25 hours weekly or 75% of working time)
- Scheme reviews: Conduct periodic reviews to ensure continued eligibility
Remember that EMI options must be exercised within 10 years of grant to maintain tax advantages. If an employee leaves, they typically have 90 days to exercise their vested options before losing EMI tax benefits. Notify HMRC promptly of any disqualifying events such as increases in share capital or changes to your trading activities.
We Can Assess Your Options
At Plus Accounting, we understand that managing EMI options can feel complicated. Our team brings years of experience helping companies like yours set up an EMI scheme and maintain effective EMI schemes.
Unlisted companies must agree on the market value of shares with HMRC prior to the grant to maintain qualifying status for EMI options.
We can review your current situation to determine if an EMI scheme is right for your business. Not all companies qualify for EMI benefits, so getting expert assessment early can save you time and frustration. We also ensure that each qualifying employee meets the necessary criteria to participate in the scheme.
If you already have an EMI scheme in place, we can evaluate whether it remains fit for purpose. Company valuations change over time, especially after fundraising rounds, which may affect your EMI options.
Our assessment services include:
- Checking eligibility criteria for your company
- Reviewing existing option agreements for compliance
- Advising on timing issues around fundraising and valuations
- Identifying potential tax benefits for your employees
- Suggesting corrections for common EMI mistakes
Remember that EMI valuations expire, which can create complications when issuing new options. We can help you manage this timing to maximise benefits.
Our experience shows that many companies make avoidable mistakes with their EMI options that only become apparent during due diligence before a sale. Early assessment can identify and fix these issues before they become problems.
You can rely on our team to provide practical, straightforward advice tailored to your specific circumstances.