EMI for start-ups: no time like the present to start-up your scheme

This post is part of our Entrepreneurial team’s regular series of blogs.

With each passing year it seems that start-ups become ever more prevalent.

Although the economy has been disrupted by the Covid-19 pandemic, the technology industry has experienced considerable growth. Entrepreneurs are seeing the opportunities that remote working brings and are looking to take advantage of gaps in the market. With the technology sector not looking like it is going to slow down anytime soon, how can your start-up find the difference that will ensure that it succeeds against all of the competition?

Although there is not one ultimate answer to success, having the right team is crucial. In fact, not having the right team has been found to be one of the top reasons for failure among many start-ups.

This is why the Enterprise Management Incentive (“EMI”) option scheme is such a valuable tool for young, growing businesses. With a work environment that often requires substantial commitment and hours, but with limited funds to reward employees for their efforts, granting tax advantageous EMI options can be a way for companies to attract and keep that team that will lead them to success.

So, when is the best time to start thinking about granting EMI options? Arguably the sooner the better. EMI options are granted following a valuation of the company’s shares which is agreed with HMRC. With unapproved (e.g. non-EMI) share options, the employee is subject to income tax and national insurance contributions on the difference between the value of the shares when the option is exercised and the option exercise price they pay, but with EMI options there is no income tax and national insurance charge due on this gain (as long as the exercise price is equal to or higher than the pre-agreed market value) – i.e. the gain made between the dates the options are granted and exercised is free of income tax and NICs (but it will be subject to the, lower, capital gains tax  charge – see below).

There will be capital gains tax on the eventual sale of the shares obtained through the options, but if 2 years have passed between the date of the grant of the options and the disposal then the EMI option holders may, if they qualify, be able to claim Business Asset Disposal Relief (previously Entrepreneurs’ Relief), providing an effective tax rate on the gain of only 10% on the first £1m of gain per individual.

So, with your employees having the prospect of reaping these rewards further down the line, EMI options are a valuable tool for incentivising staff and driving growth in your company.

If you are a very new start-up and, therefore, pre-revenue and yet to raise external investment (other than perhaps from friends and family) there really is no time like the present for incentivising and rewarding your current employees or encouraging others to join your team. In these circumstances, this can lead to a very low valuation of the shares for the purpose of granting EMI options; possibly the nominal value of the shares (usually 0.01p depending on what your share capital is divided into).

EMI option schemes are also worth considering at a later stage after initial investment has already been raised. In many cases, a company might issue options every year as a recruitment and retention tool. EMI schemes are a cost-effective and tax-friendly way for SMEs to incentivise employees, where the value of the company is expected to increase dramatically as the company grows.

If you are a start-up and have already started thinking about the best ways to incentivise and build your team or if you are further along in the process and want to grow your company even further, EMI options should always be considered. If you would like to pursue the possibility of this, please contact us in the Entrepreneurial Tax team here at C+T and we would be very happy to help.