The Employee Shareholder: What it means?

From September 1st, 2013 the employment laws in the UK have changed to enable employees to waive some of their employment rights in exchange for shares in their employer.  These shares will qualify for some tax reliefs.

These new “employee shareholders” are able to give up some employment rights but they still retain some employment rights and be subject to a notice period, but it will potentially increase flexibility for employers in some areas.

What is an employee shareholder?

Employee shareholders are employees who have agreed to waive certain of their employment rights (primarily the right to claim ordinary unfair dismissal, the right to receive a statutory redundancy payment and, except in limited circumstances, the right to request flexible working) in exchange for the grant of shares.

Existing employees can be offered this employee shareholder status, however if they do not accept the offer then they cannot be discriminated against in any way.  Offers to new employees could be made on the basis that they must become employee shareholders, but if they decline the post on this basis, the only other alternatives are for the company to offer a 'normal' employment contract or simply not to go ahead with the recruitment of that individual.

What does it mean?

There are strict criteria which must be satisfied in order to class an employee as an employee shareholder. These include:

  • Provision of written terms: 
    The employee must be provided with a written statement of the terms applicable to their arrangement, including details of any restrictions on the shares which they are to receive. 
  • Provision of legal advice: 
    The employee must also take legal advice on those terms, from an independent legal adviser or union representative and the cost of such advice must be borne by the employer.  This is still the case even if the employee decides that they do not want to become an employee shareholder.
    The payment of this advice by the company will not be taxed as a benefit in kind on the individual.
  • Issue of shares: 
    The employee must be issued shares in the employer or the employer’s parent company with a value of not less than £2,000 but up to a maximum of £50,000.  Those shares must be newly issued and the employee must not give any consideration in any form whatsoever (apart from the giving up of the employment rights) for the shares.  (Anything over £2,000 of shares carries an income tax charge which may deter some companies from issuing shares in excess of that figure as the employee will have a tax charge but no matching cash receipt out of which to meet it.)
  • Cooling off period: 
    Employees will have a 7 day cooling off period in which to change their minds.

What are the tax benefits?

Employee shareholders can receive £2,000 of shares free of income tax and social security contributions.  As mentioned above, any shares issued in excess of £2,000 in value will be taxed as normal income at marginal tax rates.

Capital gains on Employee Shareholder shares are exempt from capital gains tax.  If however the employee has acquired shares in excess of £50,000, only the gain attributable to the £50,000 of shares will fall within the exemption with any balance of gains being subject to capital gains tax in the normal manner.

Valuation of the initial shares must be certain that they have issued at least £2,000 of shares in order to satisfy the requirements and therefore it would be advisable for companies to agree a share valuation with HMRC in advance.

Pros

It gives employees a tax efficient way to invest in their employer and aligns interests of the employer and employee.

It gives companies more flexibility with their workforce, in relation to certain terminations of employment and in changing employees’ terms and conditions of employment.  It should also reduce the number of requests for flexible working.

£2,000 of shares is a relatively small value compared to the maximum compensation award that could be awarded under unfair dismissal (the lower of 52 weeks’ pay or £72,400), and it may only be a relatively small portion of a company’s share capital to give away to obtain this potential benefit.

Where share prices are expected to rise, this arrangement could offer valuable future benefit for employees.

Cons

Employee shareholders are not waiving all of their employment rights.  They will still be able to bring claims in respect of for example discrimination and whistleblowing.  Employee shareholders will also still be entitled to minimum statutory notice periods, holiday and sick pay, so employers still need to observe and understand the applicable employment laws.

For some small companies, giving £2,000 of shares to numerous employees will not work as those shares will represent too great a proportion of their overall share cap. 

New shares being issued will mean that there will be a number of new shareholders.  The articles of association and/or shareholders agreement will need to set out what happens to those shares if the employee leaves employment.

If there are external investors on board, investor consents may be required.

The rules are new and untested. It remains to be seen how widely they will be adopted in the UK, and whether employees will generally be willing to accept them. 

From the people that we have spoken to at the time of writing this, there is a real groundswell of opinion that giving up employment rights in the current market is not something that they would entertain and that some other form of tax favoured option scheme provides a better answer for them.  However, if the circumstances are right such as in a start up situation where the employment protection afforded is less valuable, this could be a good opportunity to incentivise a work force from the outset at a time when commitment is paramount.

How can Michelmores help?

Michelmores can assist in either of two ways.  The first is in relation to the implementation of the scheme for the employer by advising on the revised employment law issues, the tax issues and draft the necessary documents to put the scheme in place.

The second way is to provide independent advice to the employees again in relation to their employment law and tax position as is required by law.

If you require any further assistance or advice on this matter, please contact Brian Garner on 01392 687662 or brian.garner@michelmores.com or your usual Michelmores contact.