The importance of employment status in share schemes
Last week we wrote about employment status and how it’s not always clear whether a person is an employee or not (When is an employee not an employee?) but why is employment status so important for share schemes?
The answer lies in a mixture of tax law and company law. It is of course perfectly possible for companies to grant options or award shares to non-employees, board advisers or non-executive directors. However, you shouldn’t assume that your employee share scheme will work for those people – and in fact, you shouldn’t assume that just because you don’t think your non-executive director is an employee that HMRC agree with you.
Here are a few examples of how and why employment status is so important:
Breaching company law: The phrase “employees’ share scheme” is defined in company law. There are certain exemptions available under company law for such schemes – for example, directors will usually need a specific authority in order to be able to allot shares, but this is not required for the allotment of shares under an employees’ share scheme. However, if your share scheme involves non-employees, you may not benefit from those exemptions. Therefore, unless you have sought specific shareholder approval, for example, to the issue of new shares under that share scheme, you may be in breach of company law – and a director who does this knowingly may be subject to a fine.
Breaching financial services law: The Financial Services and Markets Act 2000 (FSMA) regulates certain financial promotions and activities. In some situations, share plans and share option plans may fall within this regulatory framework – and breaching the rules can be a criminal offence. Employee share schemes are generally exempt – but again, only if they apply to employees. If a consultant or non-executive director is involved in your scheme, this may “taint” the whole scheme. You may need to create a separate scheme for them, or ensure that you are relying on another exemption in the legislation.
Tax issues: Just because a participant is a non-employee for the purposes above doesn’t mean that tax law will be the same. The tax rules on shares acquired by employees are extremely widely drafted, covering not just employees and directors but also “officeholders”, so it’s entirely possible for a non-executive to be caught by it. That means registering your non-exec’s share scheme, making annual returns and ensuring the non-exec pays any tax due – for example, if they acquire shares for less than market value.
It may sound obvious, but if you are putting in place an employees’ share scheme, it’s important to be very clear about whether the participants involved are actually employees. Where individuals fall into a “grey area”, you should be careful about involving them in the same scheme for individuals who are definitively employees.