Employee ownership: what happens if someone leaves?

Employee ownership offers many benefits for businesses and employees, including helping to attract the best talent to a company, improving employee engagement and boosting staff retention. However, it’s inevitable that some employees will leave at some point, whether to move on with their career, due to retirement or illness, or where they have been dismissed. 

If your employees hold shares in the company – or if they have been granted share options – you should always consider what happens to their shares or options when they leave the business. There are various issues to consider, including where there may be reasons for an exiting employee to keep their shares or options; how shares might be sold, to whom, and at what price; and whether there are any tax issues to consider. 

Shares or options? 

If an employee is an actual shareholder, arrangements might need to be made for the employee’s shares to be transferred.  This might involve the company buying the shares back and cancelling them, or another shareholder buying them.  If the company has set up an employee benefit trust (EBT), the trustees might be able to buy back the leaver’s shares to “recycle” for future employee awards. 

The treatment of a leaver’s shares will typically be set out in the Company’s articles of association or, sometimes, a shareholders’ agreement.   

This will usually also cover the price to be paid for the shares.  It’s common for a “bad leaver” simply to receive what he paid for his shares in the first place; a “good leaver” may receive market value for the shares.  That will often be the price agreed between buyer and seller, or whatever price the company’s advisers confirm is an appropriate value. 

If an employee is an option holder, the treatment leavers should be set out in the rules of the relevant share plan.  Options will very commonly lapse on, or shortly after, the date of cessation of employment.  In that case, there is no need to deal with buying back shares – the options are simply cancelled.  

Good and Bad Leavers 

Most privately held companies wish to keep ownership concentrated in the hands of individuals directly involved in the business, whether by family connection or by employment.   

It follows that, if an employee ceases employment, then the default position is that their shares should be bought back, or their options lapsed.   

However, in some circumstances, the company may wish to be more generous and include “Good Leaver” provisions to allow employees to keep their options and shares, even after they’ve stopped working for the company.  These might cover circumstances where an employee leaves due to retirement, illness or death.  

Tax  

Some tax advantaged employee share schemes (such as SIP and CSOP) have “Good Leaver” definitions set out in the governing legislation, so it is a requirement to treat such leavers more generously – and this will typically feed through to the tax treatment of leavers’ shares or options.   For example, a SIP participant will not have to pay income tax or NICs when they take their shares out of the plan if they are a Good Leaver. 

Enterprise Management Incentive (EMI) legislation doesn’t differentiate between Good and Bad Leavers.  However, if an employee leaves, this is treated as a disqualifying event for EMI, and usually the option has to be exercised within 90 days of the date of cessation of employment in order for the tax benefits of EMI to be retained. 

Get expert help with your employee ownership scheme 

If you would like to discuss how we can help you with any aspect of employee ownership, including dealing with leavers, please give us a call on 0208 949 5522 or email enquiries@rm2.co.uk.