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BRITISH COMPANIES FORMATION. INCORPORATE A LIMITED COMPANY IN ENGLAND. PRIVATE COMPANY SHARE OPTIONS:

The employee is granted the right to buy shares in the company at some time in the future, but normally at the current share price or at a discount to the current share price. Exercise of the option can be conditional on performance targets.

Share options in themselves are an incentive for the employee to see the share value of the company increase. Performance targets allow this incentive to be refined and directed at specific measures of the company's performance. The employees get no equity stake in the company until the options are exercised. If the employee leaves beforehand or performance targets are not met, share options are never exercised and the employee never becomes a shareholder, thus avoiding the difficulties which can result when shares are gifted direct to employees and also avoiding any dilution of existing shareholdings. No actual cost to the company. There do not have to be any disadvantages to using share options. If new shares are allotted to satisfy options this will dilute the current shareholders, but this can be avoided by recycling old shares through an ESOP. For the employee, options are a one way bet - if the share value goes up they are worth exercising - otherwise they can be allowed to lapse.

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As a limited company owner you would pay yourself a salary which is subject to PAYE and you will have to complete a Self Assessment tax form each year to assess whether any other tax is due from company benefits etc. You must also deduct PAYE from all employees. Limited companies have a responsibility to deduct NI from all employees - including directors - and also pay Employers National Insurance - ENI. This in effect doubles your national insurance contributions and is one of the most overlooked areas when forming a limited company.

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Employee Share Ownership Plans/Employee Benefit Trusts (ESOPs/EBTs). These terms are used to mean the same thing - a trust set up by a company to benefit its employees. The trust will acquire shares in the company which are then made available to employees. As well as acquiring newly issued shares, the ESOP can acquire shares from current shareholders when they might otherwise find it difficult to dispose of their shares, particularly for small private companies. Shares from the ESOP can be used to satisfy share options or to make gifts of shares (or sell them) to employees. Contributions to the ESOP (which can be gifts or loans) done properly, will be tax efficient for the company. Tax and Share Incentives - Inland Revenue Approved Schemes: if employees do not pay full value for the shares, they are exposed to income tax liabilities on the difference between that value and the amount (if any) they actually pay (and sometimes NIC liabilities arise and PAYE has to be operated). But these liabilities can be reduced, delayed or avoided altogether if an Inland Revenue approved employee share scheme is used. The following types of approved schemes are now available: Save As You Earn scheme: all qualifying employees in the company are granted options. The exercise of options is funded using a special savings schemes which pays tax free bonuses. Company Share Option Plan: The company has discretion over which employees are granted share options, which can only be exercised every three years. Share Incentive Plan: All employees in the company are given either free shares, or pay for shares out of their pre tax salary or do a mixture of both. The shares however have to be retained for five years to maintain all the tax advantages. Enterprise Management Incentives Scheme: All or only certain employees in a qualifying company can be granted options with a value of up to £100,000 per employee which can be exercised at any time.

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SHARE OPTIONS - ENTERPRISE MANAGEMENT INCENTIVES

The Enterprise Management Incentives (EMI) share scheme is intended to assist smaller high risk companies, especially those operating in the IT sector, by enabling them to grant tax efficient share options as a means to incentivise high calibre employees. Until now, companies wishing to use share options as a means to recruit and retain employees without offering high salaries have either had to suffer the consequences of potentially high taxes or alternatively set up cumbersome and restrictive approved share option schemes.

The new EMI scheme is intended to be considerably more tax efficient and flexible than the existing arrangements for share option schemes. For example: the EMI scheme requires no formal share option scheme - options are granted by a single written agreement with the relevant employee. There is no minimum exercise price (although if options are granted at a discount, there will be a tax liability on the discount). Options may vest immediately and may remain exercisable for up to 10 years. Options must be over fully paid up ordinary shares although the shares may have limited or no voting rights and may be subject to other restrictions.

There are a number of formalities - although there is no limit on the number of employees who may hold EMI options the value of options per employee is currently limited to £100,000. In addition there is an overall maximum limit of £3 million worth of shares over which EMI Options may be granted by any company. The company must agree the value of the shares with the Inland Revenue unless the shares are listed on a recognised investment exchange. In addition, the company must have gross assets of no more than £15,000,000. Options may not be granted over shares in a subsidiary company.

Full time employees may be granted EMI options. In addition, part timers will also qualify if they commit 75% or more of their working time to the business of the company. Consultants, non-executive directors and contractors will not qualify for EMI options.

EMI options may not be granted to any person who, together with their relatives and associates, holds more than 30% of the shares in the company.

Certain companies will not qualify for EMI options if their activities are designated as excluded activities. Examples of excluded activities include the following: dealing in land, commodities or futures etc. Dealing in goods otherwise than in the course of an ordinary trade of wholesale or retail distribution. Banking and related activities. Leasing or receiving royalties or licence fees. Legal or accounting services. Property development. Farming and woodlands. Hotel, nursing and care home management.

Companies can apply for advance assurances that they qualify for EMI.

If the option qualifies as an EMI option, the company must notify the Inland Revenue within 92 days of granting the options. The notice must be accompanied by the relevant form. The Inland Revenue has 12 months after it receives a notice to disqualify an option for EMI tax treatment.

OVERVIEW OF TAX ADVANTAGES. INCOME TAX

No income tax or national insurance is payable on the grant of EMI options. In addition, provided that the exercise price is not less than the market value of the shares at the date of grant, no income tax or national insurance will be payable on exercise. If the EMI option is granted at a discount, income tax is payable on the amount of the discount.

CAPITAL GAINS TAX

Capital gains tax is payable on any EMI shares at the time of their disposal. However EMI shares receive preferential treatment for capital gains tax purposes. They are treated as “business assets” for the purposes of capital gains tax taper relief and they are considered as being acquired at the date of grant. Therefore provided that the shares are sold at any time five years after the date of grant, capital gains tax will normally be taxed at the rate of 10% rather than 40%. The new EMI regime should be of great benefit to small companies wishing to incentivise their key employees by way of tax efficient options. The tax benefits will operate to the advantage of both the company and the option holder.