Employee Share Scheme Options for Property Businesses

Share Incentives and Property Businesses

In our experience assisting property and construction businesses, one recurrent and challenging question is how to retain top talent through equity incentives. While various tax-efficient share schemes exist, such as the Enterprise Management Incentive (EMI), many property businesses find themselves ineligible for EMI and other favourable schemes like the Enterprise Investment Scheme.

This limitation leads to the question: what viable Employee Share Scheme options are available? This is typically a bespoke matter for each business to get the right advice on, but there are a number of things you can think about, and it will in part depend on what you are trying to achieve.  Let’s run through some examples for ease:

Employee Share Scheme for a Property Investment Company

Imagine you own a valuable family property company, with management who are now running the business on behalf of you and the family.  Having found the right team, you really want them to stay and feel part of the business.  It’s not likely the company will ever be sold, so what could you do to keep the team incentivised?

There are traditional share options, however a more feasible Employee Share Scheme involves “growth” or “flowering” shares, designed to escalate in value post-issuance without an immediate high tax impact. The tax regime that surrounds employees being awarded shares in their employing company means that if valuable shares are passed to employees, they have an income tax bill to pay – this can even be a PAYE immediate tax charge if the shares are readily convertible assets.  So the idea of giving your employees growth shares is that the shares will have limited value on day 1, but they will participate in value created once they own the shares.

There are a number of different ways of creating these growth shares.  Usually the focus is on keeping the immediate tax charge to a minimum so the shares don’t have a significant upfront cost to the team you are wanting to incentivise.  It’s not as simple as saying the value today is £1m, so the growth shares can participate in everything beyond £1m, as HMRC are likely to say the shares have hope value, so the way the growth shares are created is key to managing the tax position.

As outlined above, crafting such shares demands careful planning to minimise upfront tax liabilities and avoid unexpected future burdens. Our corporate finance team can provide an opinion on what value attaches to growth shares and how to make sure your employees don’t get a nasty tax bill later.

Property Developer and the Next Generation

Another scenario we have is a property developer who has brought on junior members of the team who are now becoming experienced in spotting the next deal.  There is real risk they may choose to simply go their own way (finances permitting) because they think that they would rather share a slice of the deal profit rather than just getting a regular salary.

Structure is usually key when you are a serial property developer.  An effective Employee Share Scheme option in this context involves encouraging your team to bring these deals to the table on the basis that you will use an SPV (special purpose vehicle – usually a separate limited company) for each deal, and they will have a percentage of that SPV.  It’s unlikely the company has any value at the start, so the income tax position should be ok (obviously you need to consider each circumstance) but this would give the team member an equity stake in the deal they bring through. This approach can foster loyalty without immediate tax concerns, assuming the initial company valuation is minimal.

Transforming Shares into Tangible Rewards

The other part of any  Employee Share Scheme discussion has to be how do you actually convert shares into cash. Shares can be an incentive, but unless there is a real expectation of either regular dividend payments (which may be one part of it) or a later capital exit event, then it may be a lot of work without achieving the tie in you are looking for.

As with all things tax there are a number of possible exit routes:

1. A simple option can be a company purchase of own shares, but depending on the nature of the company (is it a trading company or an investment company)  and a number of other conditions, this route could be taxed as a dividend rather than to capital gains tax.
2. Another simple option is that someone buys their shares – this isn’t always tax efficient for the buyer, but again it depends on who that is and their circumstances – if it’s a company then it may work well for both parties.
3. We have other businesses that set up an Employee Benefit Trust to be a share “market place” – so it can be the buyer of shares from employees and in due course, pass them on to other employees – this can be a useful vehicle if there are a number of employee shareholders but there are a lot of tax complexities to deal with.

It is important to give this some thought, as otherwise you could end up with a really disgruntled person holding the shares wanting an exit and no plan!

Keeping it in the Family – Legal and Tax Considerations

The final point to make is that the critical thing with any Employee Share Scheme is having the right sort of legal agreements in place. You need to consider that the person you are wanting to incentivise may leave, so think about good and bad leaver provisions, what would you want to do if they tragically died holding the shares?  Do you want to force them to sell if you are selling (yes is the usual answer!). Good legal input is absolutely key, as well as getting the right tax advice.

Employee Share Schemes can be really powerful, but the tax aspects surrounding them are complex and not overly favourable.  With good planning and advice it should be possible to create something that works, and this is an area we spend a lot of time advising on, so if you want to chat it through please do not hesitate to get in contact with Kate Naylor, a member of our Corporate Tax team, or your usual AAB contact.

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