Incentivising your top earners

With the top rate of tax rising to 50% in April 2010 and the anticipated rise in the National Insurance (NI) rates, employers are looking for alternative ways to incentivise their highest earning employees in a more tax/NI efficient way.

Some employees are still managing to reduce their tax/NI bills by maximising their pension contributions, but with the anti forestalling legislation introduced in the 2009 Budget, the effectiveness of this has been significantly reduced.

Employers are now looking closely at the use of shares and share options as a means of rewarding key personnel. These can offer a tax/NI efficient way of remunerating employees, whilst aligning their interests with those of the company’s shareholders, to ensure their commitment to the company’s growth. With the current rate of capital gains tax (CGT) being 18%, after an exemption of £10,100, it is a huge advantage to reward employees in shares where any increase is charged to CGT, and not income tax or NI. 

Share options

There are a number of tax favoured option schemes approved by HM Revenue and Customs (HMRC) that can be adopted by many companies. For those companies that qualify, the Enterprise Management Incentive (EMI) scheme is by far the most tax/NI efficient scheme introduced by the Government. It allows a company to grant options over shares with a maximum value of £120,000. For those companies that do not qualify for the EMI scheme, they may qualify under the Company Share Option Plan (CSOP) that allows a company to grant options over shares with a maximum value of £30,000.

Under these schemes, provided that the requirements are met by both employer and employee, any increase in value of the shares under option – from grant to exercise – is only liable to CGT, not income tax or NI.

If the limit on these schemes does not offer an appropriate incentive, companies can also use unapproved option schemes, although they do not benefit from the tax advantages of the HMRC approved schemes. If however, a company does not qualify for an approved scheme, growth shares are a good alternative.

Growth shares

Some employers may not want to pass the current value of the business on to their employees but would welcome the opportunity for their key personnel to participate in any future growth. By setting up a class of share where the majority of the company’s current value is retained by the existing shareholders, the value of the new class of share at the outset can be taken to be very low. As long as the employee pays this low value at acquisition, the share has been acquired at its market value and does not attract any income tax or NI charge at acquisition. 

The employee may then participate at some level in the profits of the business through a dividend payment. Any subsequent growth in the value of the shares will only be liable to CGT at disposal.

If you would like to find out more about these ideas please contact Mark Collins on 01483 307022.