EMI Problem: Closed Door or Locked Door?

The Enterprise Management Incentive (EMI) legislation is complex and once you have set it up, there is no guarantee that you won’t inadvertently do something to negatively impact its approved status.

Unfortunately there are a number of ways that the scheme benefits can be lost. Sometimes events mean that the outstanding EMI options are unaffected but no more EMI options are able to be granted. Sometimes however, the benefits of the EMI are lost altogether, even on existing options. The events to beware of are those that trigger a ‘Disqualifying Event’. The three most common such events are explained here. Where a disqualifying event occurs the legislation provides a small window of opportunity in which to exercise options to preserve the tax benefits. This period was 40 days however the enactment of the Finance Act 2013 means this period is now 90 days.

“Closed door”

No more EMI options can be granted however existing EMI option holders are not affected. These tests are continuous so for example if you have 249 employees you can grant options. Once you have 250 employees no more EMI options can be granted, however if for any reason you drop below 250 employees (e.g. a headcount contraction during a recession) you can again grant more EMI options (provided all other tests are met).

Some examples of “closed door” events

  • You increase staffing to 250 employees or more
  • Exceeding £30 million gross assets
  • Granting options with a value of more than £3 million overall (in this case as in the case below anything over the maximum will be treated as an unapproved option)
  • Granting options to one person with a value of over £250,000 (Note the above and also if you award the maximum value of £250,000 you will not be able to award further options to that individual, should they exercise any of the options they hold, for a further 3 years. It is therefore best advice to not award the maximum value of EMI options but instead award up to £249,999.)
  • Company re-organisation i.e. the company buys less than a 51% stake in another Company. This would then be a non-qualifying subsidiary and may prevent further options being granted.

“Locked door”

If the below situations occur the EMI approved status is lost. This means that the gain in value under the EMI up to this point is within capital gains tax however any further gain will be subject to income tax.

“Locked door” events include:

  • Change of trade to one of the disqualifying trades (i.e. property development, legal or accountancy services, leasing assets on hire etc.)
  • Change of terms of the option: Terms of the option that cannot be changed include when the option can be exercised. For example if you have an option available on exit only and wish to allow early exercise this is a disqualifying event and would constitute a new option. However, if an option already had performance conditions attached and these conditions needed to be amended you could contact HMRC and seek clearance on this (so long as there was a commercial reason why the targets needed to be amended); and
  • Re-organisations: A new holding Company is introduced above the Company that has offered options and the Scheme Rules do not allow for a qualifying roll-over of options to the new parent Company.

The above lists are by no means exhaustive; which is why having an advisor to keep a professional weather eye on such matters on an on-going basis is important. Fall foul of such prudent housekeeping and you may only find out that you’ve triggered a disqualifying event at some point during the option life cycle when, at an exit, the acquirer’s due diligence highlights the problem. At RM2 we administer 99% of the share schemes we implement, and sometimes administer plans established by others. We therefore take care of all such compliance monitoring with you. Furthermore, if you think you may have a problem with an existing plan or want a pre-sale due diligence check carried out to ensure you are in good shape and compliant then we offer a Health Check service.

Just to clarify a “closed” or “locked” EMI door does not mean that you are unable to implement other share schemes, for example CSOP, SIP, or DSPP. There are a wide variety of share schemes available and you can get an overview of the full range by looking at our fact sheets.