Labour’s manifesto – not good news for employee ownership?

If the Labour Party wins the election, their manifesto has promised the removal of entrepreneurs’ relief (ER), which provides a 10% capital gains tax (CGT) rate on the sale of shares in certain circumstances. (It’s probably worth nothing that the Treasury is already grumbling about the costs of ER, so ER might die a death even if Labour don’t win a majority.)

ER is currently a big selling point when it comes to Enterprise Management Incentive (EMI) options. If an employee has acquired shares under an EMI scheme, they will benefit from ER on the sale of those shares, provided the option was granted at least 2 years before the date the shares are sold. The usual ER rules (requiring, for example, the employee to hold at least 5% of the shares in their company) don’t apply.

Could the removal of ER be the end of the world as we know it for EMI options?

We don’t think so. At the moment, the ER relief for EMI is the cherry on the icing on the cake in terms of tax advantaged share option schemes. The only other discretionary tax advantaged option scheme is the Company Share Option Plan (CSOP), which doesn’t offer ER relief. However, EMI offers a number of other advantages over CSOP outside the ER cherry – including larger option grant limits and greater flexibility as to the type of shares that can be used and the exercise conditions for the options.

In fact, the far bigger threat from Labour’s manifesto to any type of tax advantaged share scheme would be the changes to CGT rates. These are proposed to increase to the same level as income tax, and with the annual CGT exemption reduced from £12,000 to £1,000. The rate of CGT would still be lower than the charge on income, because NICs charges would not apply. (Of course, such a change would have an enormous impact far beyond the narrow world of share schemes.)

Delivering shares into the hands of employees is not just about the tax advantages – but it’s true to say that they provide a strong “nudge” to encourage companies in this direction, just as tax advantages encourage individuals towards saving towards a pension. The reasoning behind this is that governments of all stripes recognise the variety of advantages that sit alongside broader share ownership, including higher employee engagement, stronger workforce retention and improved productivity. (Take a look at The Ownership Dividend for a taster.)

RM2 looks very dimly on the implementation of employee share schemes purely to deliver a tax advantage – and the current differential between the 10% ER rate and the top rate of income tax does, in some cases, result in businesses creating unnecessarily imaginative ruses to achieve the “holy grail” of a 10% tax rate. That isn’t okay.

However, we think that removing the nudge of beneficial tax treatment for employee share schemes will inevitably reduce the positive behaviour it is intended to encourage – and, alongside that, the advantages for the wider economy that employee ownership has been demonstrated to achieve.

Positive behaviours need encouragement. Narrowing the gap between CGT and income tax rates is not necessarily a bad thing. Removing it almost completely is, we believe, a step too far.

If you’d like to find out more about employee share schemes, tax advantaged or otherwise, call us on 0208 949 5522 to speak to one of our consultants, or email us on enquiries@rm2.co.uk.