"Employee Share Schemes" - The Chartered Institute of Taxation

“Employee Share Schemes”
14 May 2013
The Chartered Institute of Taxation
Birmingham & West Midlands Branch
David Pett
Partner
www.pettfranklin.com

Agenda
©2013 Pett, Franklin & Co. LLP www.pettfranklin.com 1
• Overview
• Other changes in 2013
• EMIs and ER
• “Employee Shareholders”
• SIPs – new opportunities
• JSOPs v growth shares
• Recent Cases and EBTs

2012/13: an Overview
• A year of reviews
• Substantial enhancements of approved plans and EMIs
• A series of tribunal and court decisions on avoidance
arrangements and EBT contributions
• BUT, clear political support for employee share
ownership
• Still the need to persuade HM Treasury to remove pitfalls
and barriers to allowing the operation of a
straightforward employees’ share scheme in an
independent private company

2012/13: an Overview (cont’d)
• However ... we now have the most generous UK tax
regime ever for employee share acquisitions – with
yet more reliefs to come !
• The government has largely done what practitioners
have asked for ....
• ... now it is for practitioners to explain the merits to
company owners and enable companies to establish
new schemes and arrangements in a cost-effective
manner

2012/13: an Overview (cont’d)
• Office of Tax Simplification:
– Review of HMRC-approved employee share schemes (March
2012)
– Review of unapproved employee share schemes (January 2013)
• HM Treasury:
– Review of employee share ownership (2012)
• HMRC:
– Consultations on government responses to OTS
recommendations
• BIS:
– The Nuttall Review of Employee Ownership (July 2012)
– Consultation on implementation (October 2012)
– Model documentation for “employee-owned company”

EMI share options – 2013 changes
• From Royal Asset of FA 2013, the 40-day period for
exercise following a “disqualifying event” (with no
restriction on relief from income tax on growth in market
value) is increased to 90 days
• Change to plan rules/option terms to extend, to 90 days,
the period following a ‘disqualifying event’ (only) in
which existing option may be exercised will not be
regarded as ‘grant of fresh right’ – but requires careful
drafting
• Note: there is no corresponding ‘period of grace’ which
allows for CT relief for option gain if, e.g., the EMI
company is acquired by an unlisted company.

EMI Share Options: entitlement to
Entrepreneurs’ Relief from capital gains tax
• Share acquired upon the exercise of an EMI option
– On or after 6 April 2013
– Within 10 years of grant
– If qualified as an EMI option at the time of grant
– Within 90 days following a “disqualifying event”

• Will qualify for ER if either:
a) The disposal is more than 1 year after the date of grant and
throughout that year the company is a trading co. or holding
co. of a trading group and the individual is an employee or
director of a group company
OR
(b) If the company has ceased to be a trading co. (etc), the shares
were acquired before it so ceased (or before the end of the 90
day period after it ceases to satisfy the trading activities test)
and the conditions in (a) are satisfied and the cessation is not
more than 3 years before the disposal
Note: if EMI option is exercised within 90 days after a
“disqualifying event,” the option must have been held for 1
year before the disqualifying event

Identification of shares disposed of
• EMI shares are separately pooled
• Shares disposed of are identified with EMI shares
qualifying for ER, rather than with other shares
• And with those acquired earlier, rather than those
acquired later
• If, of shares acquired on the same day, some are and
some not relevant EMI shares, in applying the 30-day
“bed & breakfasting” rules, the relevant EMI shares
are to be treated as disposed of after the other
shares acquired that day.

Share-for-share exchange of EMI option
shares
• If there occurs a CGT reorganisation or a share-for-
share exchange (per s.135 TCGA), so that s.127 (tax-
free rollover) applies, the new shares “stand in the
shoes” of the old shares so as to be treated as
“relevant EMI shares” for ER purposes
• Note: in the case of a share-for-share exchange, it
must be a “qualifying exchange of shares” for EMI
purposes and both the independence and trading
activities requirements must be met in relation to
the new company.

Transitional provisions
• If EMI option exercised in 2012/13, and no shares in
the company were sold, then new rules apply
• If shares of that class were sold in 2012/13, can elect
before 31 Jan 2014 for shares sold to be identified
with non-relevant EMI shares, rather than with
relevant EMI shares, and with those acquired later
rather than earlier

Illustration of EMI Tax Benefits
£50,000 gain
Unapproved options or cash bonus
Taxable income £50,000
Tax and Employees NICs (23,500)
(47%)
Net of Tax 26,500
Also Employer NICs
13.8% x £50,000 £6,900
EMI option (market value)
Capital Gain £50,000
Nil rate band (13/14) (10,900)
Taxable Gain 39,100
ER rate 10% (3,910)
Gross 50,000
Tax (3,910)
Net of Tax 46,090
Employee saves £19,590
Company saves £6,900

Remember
• Also CT relief on £50,000 and no cash outflow if new
issue shares
• £250,000 limit could be after 75% discount for
minority interest
• Basic rate payer also benefits
– On cash bonus pay 20% Income Tax and 12% NIC v Capital
Gains Treatment

Planning Ideas
• Issue EMI options – immediately exercisable
• for employees getting less than 5% don’t issue shares
directly, issue via EMI options to get ER relief
• ‘purpose test’? / GAAR?
• Remember CT relief
• on increase in value (from iamv)
• structure ownership with EMI options to get CT relief

George Osborne’s “great idea”
• Shares in exchange for giving up employment rights
• The government’s intentions:
– in exchange for giving up certain rights under employment laws a
company may procure the issue to the employee of new shares in
that, or an “associated, company”
– for no consideration
[but, can always re-instate rights by later agreement !]
• Shares will qualify for exemption from CGT (subject to limit of
£50,000 IUMV)
• Minimum AMV must be £2,000

“Employee shareholders”
• If employee (or a connected person) does not (and is not
deemed to) have a (25%) “material interest”, he is deemed to
have given consideration of £2,000 for the shares
• But this only applies if the shares acquired have an AMV of at
least £2,000
• So, if they have an AMV of ≥ £2,000 the employee is only
charged to tax on acquisition on the AMV less £2,000

Relief from tax on disposal of qualifying
shares held by an “employee shareholder”
• Exemption from capital gains tax (provided the employee has
not acquired a “material interest”) whether or not still holding
office or employment; and
• No tax charged on a buy-back of own shares by the issuing
company if at that time the employee no longer holds office
or employment with the company or an associated company
• Note: no equivalent relief from dividend treatment if other
shares bought back into treasury under CA rules

• CT relief is available for the value of the shares
acquired, ignoring the £2,000 consideration deemed
to have been given

Some (of the many!) technical problems
• How is the nominal or par value to be paid up?
– cash payment by employer subsidiary
– otherwise, a special resolution required to authorise a
capitalisation of reserves and application in paying up the
new shares
• In a ‘start up’ or early-growth company, what if
anything less than a ‘material interest’ is worth less
than £2,000 ?

• Relevant clauses of the Growth and Infrastructure Bill
were voted down by the House of Lords within hours
after the Chancellor’s Budget Speech
• Act passed only after amendments:
– to allow for 7-day ‘cooling off’
– obligation on employers to pay for advice for employee
• Comments of Nick Clegg

Loans by a close company to an EBT
• Beware the effect of changes to s.455 CA 2010 with
effect from 20 March 2013
• If any member of the class of beneficiaries is a
shareholder in the company, a loan to the EBT gives
rise to a penal 25% tax charge
• Cannot now argue that first loan is made at a time
when the trustee is not a participator!

Changes to Company Law
From 30 April 2013:
• Private company can hold in treasury shares bought back off-
market if paid for out of:
– distributable reserves; or
– with cash not exceeding £15,000 or, if less, the value of 5% of its share
capital per financial year [Quaere: is this out of capital ?]
– but not otherwise out of capital !
• An off-market purchase of own shares must now be either:
– for the purposes of an employees’ share scheme and authorised under
new s693A; or
– specifically approved by [ordinary] resolution under s694
21www.pettfranklin.com©2013 Pett, Franklin & Co. LLP

• If for an employees’ share scheme, there must first be a (max) 5-year
authority to do so by ordinary resolution specifying the maximum number
of shares to be purchased and the maximum and minimum prices (or
objective formula for determining the price) – s693A
• Any buy-back out of capital (including for small cash payment) for an
employees’ share scheme appears to require a special resolution plus a
directors’ statement of solvency (ss720A and 720B) – not intended by
policy makers !
• Understand that intention is for shares to be able to be bought back:
a) out of distributable reserves; or
b) small cash payment; or
c) capital; or
and that, if (a) or (c), the process be simplified so that, if (c), no special res.
or solvency statement required
• Confused drafting and unclear terminology

But .........
• If shares bought back from an employee who has held them
for less than 5 years, proceeds in excess of nominal value +
premium taxed as dividend not capital gain

• When can a buy-back by the company ever be “for the
purposes of an employees’ share scheme” ?
– see definition in s1166
• If no distributable reserves, a ‘small cash’ purchase appears
still to require a special resolution plus solvency statement
• Still easier to buy-back into an employees’ trust

Other 2013 Budget Changes
• Changes to CSOP, SAYE option plans and SIPs, mostly
from Royal Assent of FA 2013
• From 6 April 2014, the exempt limit on ‘taxable
cheap loans’ (and ‘notional loans’) doubled to
£10,000
– enhances attraction of ‘subscription for deferred payment’
arrangements
– but beware ‘loans to participators’ charge if close company
(Aspect Capital decision). Exemption for loans to full-time
employees is £15,000

Budget Changes (cont’d)
• From (broadly) 20 March 2013, restrictions on CT
deductions for employee share acquisitions so as, eg,
to disallow deductions for accounting charges and
transfer pricing payments

Proposals for future tax changes
• In FA 2014, change to ‘self-certification’ of HMRC-
approved CSOPs, SAYE share option plans and SIPs
– requires much work to clarify any uncertainties presently
resolved on a ‘case by case’ basis by HMRC
• Consultations on:
– OTS recommendations on unapproved schemes to be legislated
for in 2014 or 2015
– abolition of stamp duties on shares in AIM companies and
quoted on other ‘growth markets’ (FA 2014)
– measures to remove presumption of self-employment for
partners in LLPs and to counter manipulation of P/L allocations
by partnerships including a company, trust (etc) to gain tax
advantage
– s.222 charges (90 days → 6 July)

“Employee-owned companies”
• The Nuttall Review of Employee Ownership
• Proposal to allow employee trusts in perpetuity (?)
• From 30 April 2013, changes to CA 2006 to allow private
companies to buy back shares and hold them in treasury,
with simplified procedure if “for the purposes of an
employees’ share scheme”
• Proposals for new reliefs for employee-owned companies
– CGT relief for sale of controlling interest to an EBT
– additional reliefs for employees (eg on profit distributions ?)
• See also OTS recommendation re ‘safe harbour trusts’
• Model documentation for an employee-owned company
(drafted by Pett, Franklin & Co. LLP)

Other changes easily missed
• Changes to:
– HMRC practices re approved plans (see ERSS Bulletins 4 –
7)
• extended exceptions to rule that SAYE contributions must be by
deduction from pay
• electronic communications allowing CSOP rules to include a s431
election
– change of address for EMI grant notifications
• Academics and spin-out companies:
– HMRC review of whether Chapter 4A remains relevant

Changes to SAYE share options in 2013
• Removal of need for a specified retirement age (so no tax
on early exercise following ‘retirement’)
– Protection for existing optionholders who may still exercise on
attaining the specified age
• No liability to income tax if SAYE option exercised early
pursuant to a provision in the plan rules which allows for
early exercise upon a takeover in the manner prescribed
– Existing schemes which already provide for early exercise
(subject to tax) have effect with modifications necessary to
reflect the new rules
• HMRC approval not required for changes to meet new
rules

SAYE share options
• Removal of the material interest test
• Freedom to use “restricted shares,” but restrictions are
ignored in determining market value
– But cannot use a separate class of “employees’ shares” (para 22)
• Withdrawal of 7-year SAYE options
• Early tax-free exercise also allowed if “relevant
employment” ends by reason of:
– TUPE transfer; or
– if the employer is an “associated company,” the association
ceasing (eg sale of subsidiary employer)
– SAYE rules must (and existing rules deemed to) provide for this
– defer sale of subsidiary until Royal Assent ?

Changes to CSOP options in 2013
• Removal of need to specify “retirement age”
• Allows tax-free early exercise if option exercised within 6
months after employee ceases to be in “qualifying
employment” by reason of:
– TUPE transfer; or
– The employer company leaving the group
• Allows tax-free early exercise if company is subject to a
takeover (subject to conditions) and the plan rules as
approved so permit
– Existing approved plans are deemed to include necessary permissive
provisions
• “Material interest” test: interest in threshold level for
exclusion from 25% to 30% (in line with EMI options)

CSOP options
• Can grant CSOP options over “restricted” shares, but the
market value of such shares is to be determined as if they
were not
– Avoids all existing problems of differential “pre-emption”
provisions in articles of association (etc)
– Beware: if “restrictions” attaching to option shares are such that
they become a separate class of share, then may fall foul of para
20 Sch.4 test:
• Majority of shares of the same class must be either “employee-
control” shares or “open market” shares
• Terms of option must specify what restrictions are
(HMRC practice – this can be by reference to the articles
of association)

SAYE and CSOP options: tax-free early
exercise upon certain takeovers
• Plan rules must allow for this (although existing SAYE
approved plans which already allow for early exercise
upon a takeover and existing CSOP options which
already allow for an exchange of options upon a
takeover are deemed to be amended to allow for
such tax-free early exercise: other existing plans will
need to be amended)
• Note: corresponding changes to SIP rules

• Plan rules may provide for early exercise:
– Within 6 months after a change of control following a
general offer
• to acquire the whole of the issued ordinary share capital
conditional upon control passing; or
• to acquire all the shares of the same class as the option shares
– Within 6 months after the court sanctions (under s.899 CA
2006) a compromise or arrangement affecting:
• all of the ordinary share capital; or
• all shares of the same class; or
• all those held by a class identified otherwise than by reference to
office or employment or participation in a CSOP/SAYE scheme

• At any time when a person is bound to acquire shares under
CA 2006 ss.979-982 or 983-985
• Beware: recent FTT case of Hema Tailor vs HMRC illustrates
how if a “general offer” is not “to acquire the whole of the
issued ordinary share capital” an SAYE option will not be
exercised “under the plan”. In that case it followed that tax
was due on early exercise under PAYE (see s.701 ITEPA) – as
employer had failed to do so, the optionholder could not be
liable under self-assessment
• Even under new rules such early exercise would be taxable as
general offer was not for whole of issued share capital
- if shares were of different class it would have been a “takeover offer”

• In what circumstances will early exercise of a CSOP or SAYE
option [or withdrawal of SIP shares] upon a takeover be tax
free?
– There must be:
• A “general offer” (not further defined – see the Hema Tailor FTT decision) to
acquire the whole of the issued share capital conditional upon control passing,
or a general offer to acquire all shares of the relevant class OR
• A compromise or arrangement affecting all shares of the same class or all
shares of a class identified otherwise than by reference to employment or
participation in a CSOP/SAYE scheme OR
• A “takeover offer” (as required for the compulsory acquisition provisions to
‘kick in’) relating to the plan company and to the relevant class of shares
– As a consequence the optionholder must sell the shares acquired for
cash only
– If the scheme rules allowed for an exchange of options, such
opportunity to do so is not offered

– The arrangements must not have a tax avoidance purpose;
when the decision to grant the option was made, the offer
(etc) had not been made, and the change of control was
not in contemplation.

2014 changes to SIPs, SAYE and CSOP
options
• Move to “self-certification” (as per US)
• Requires greater clarification of technical points
E.g. Extent to which discretion can be reserved to company
if CSOP optionholder leaves
• What may, and must not, be included

Why it’s time to look again at SIPs
• Since 2000
• Low take-up amongst unquoted companies
• Thought to be too complex
• Risk of penal clawback if company sold within 3 years

What is changing?
• OTS report on tax-advantaged share schemes
– Nearly all recommendations accepted
• FA 2013 changes (from Royal Assent)
– Removal of need for a specified retirement age (so no charge to
tax on withdrawal of plan shares upon retirement at any age)
– Removal of charge to tax on a withdrawal of shares upon a
takeover (subject to conditions)
– Removal of “material interest” (25%) test
– Freedom to use restricted shares – but restrictions ignored for
valuation purposes
– Uncertainty re scope for allowing forfeiture on early leaving

Accumulation Period etc
• Preferred by unquoted companies as illiquid
• Problem: exposure to changes in share value
• Payment for “partnership shares” by monthly deductions
from salary over up to 12 months: number of shares
acquired can be calculated by reference to M.V. at outset
(or at time of acquisition, or lesser of either – but
company must specify at outset)
• Removal of limit on reinvestment of dividends on plan
shares (although company can specify a cap on the
proportion which can be so reinvested)
– From 6 April 2013

Compare SIP award of partnership
shares with SAYE options
• SAYE options: the discount (of up to 20%) is a cost to
shareholders through dilution;
• SIP partnership shares: the discount (by acquisition
out of gross salary) is a cost to HM Treasury!
• SAYE options: must pay bank/building soc. to
administer the plan and hold savings under an
authorised savings plan;
• SIP partnership shares: savings held by trustee in a
normal trustees’ bank account

Using a SIP in an early-stage/start-up
company
• Alternative to SEIS relief?
• “Founders share plan”
– 4 employee subscribers (being the only employees) each
subscribe one share (1p par value) for £1 per share
– company funds SIP trust to subscribe for 4 x 99 shares
– shares gifted as free SIP shares

Advantages of a SIP
• Standard-form documentation
• Growth in value of “Founders” plan shares is entirely free
of tax (exempt from CGT)
– Non-SIP shares probably entirely tax-free because of CGT nil-
rate band
• Relative ease of administration
– Can normally be undertaken in-house
• GAAR?

SIPs – the need for a trustee
• Use a guarantee company specially-formed as a
wholly-owned subsidiary
• In a small company, use individual directors?
– Risk of unlimited personal liability
– Indemnity from company is only as good as the company
itself

Disadvantages of a SIP
• Shares must be offered on a “same terms” basis to all
qualifying employees
• Performance-linking of awards of free shares is
permitted, but is “messy”

Restricted Shares
• Problem:
– pre-emption of SIP shares of leavers had to apply to all
shares of the class forcing an existing non-SIP shareholder
employee to sell
• New regime:
– shares can be subject to restriction which only applies to
SIP shareholders

Disposals Trap
• Exit Event within 5 years – “clawback”
• 3 – 5 years lower of m.v. at award or exit
• Below 3 years m.v. on exit clawback
• so Employer’s NICs > original saving
• Solution:
– share sale: hold new shares in trust for 5 years overall
– Loan notes: hold notes in trust for 5 years overall
• Cash sale: clawback

• Up-front CT relief for funding a SIP to acquire a 10% interest
• Of interest to independent companies seeking to establish “employee
ownership model” or proprietors seeking a tax-efficient exit
• SIP trust must acquire 10% within a 12 month period
• Shares must be acquired otherwise than “from a company”
• 30% of shares must be awarded as Free, Matching or Partnership Shares
within 5 years, and 100% within 10 years. If not, HMRC may withdraw all
of the relief by treating amount as taxable receipt when direction given
• Limits, of £1,500 Partnership (with up to £3,000 Matching) and £3,000
Free shares, means that employee profile may not enable sufficient shares
to be awarded in time!
• If shares not awarded within 2 years (5, if not RCAs), then SIP trustees
subject to CGT on growth in value
Independent companies: using a SIP

• The individual vendor can “roll-over” the gain on sale to
a SIP which acquires 10% or more within 12 months if,
within 6 months of the SIP trust acquiring 10%, all of the
consideration is reinvested in chargeable assets,
excluding (only):
– private residence
– EIS shares
– same group company shares
Vendor’s relief for sale
to a SIP holding > 10%

SIP Illustration
• Company gifts free shares when company worth
£1 million
• Free shares gifted to employees @ 75% discount
for minority holding agreed with HMRC
• Company sold or floated more than 5 years later
for £10 million

Employee’s Position (Free)
• Gifted £3,000 worth of shares (equivalent to £12,000
before valuation discount) representing 1.2% of
share capital
• No Income Tax or NICs on award
• On exit, shares sold for £120,000 (10 x £12,000)
completely free of tax

Employee’s Position (Partnership)
• Buys £1,500 worth of shares (equivalent to £6,000
before discount) representing 0.6% of share capital
• For 40% tax payer because of tax and NI actual cost is
only £870
• On exit shares sold for £60,000 – Tax Free

No Growth Company
• Shares do not increase in value when company is
sold
• On exit shares sold for £6,000 Tax Free
• Effectively a £5,130 tax-free gain (£6,000 - £870) on
an £870 investment
• [cf John Lewis Partnership SIP!]

Company Position
• Company NIC saving 13.8% x 1,500 = £207
(Partnership Shares subscription proceeds)
• Other cost saving in lieu of cash bonus/pay rise
• Retention tool
• CT reliefs/rollovers

Other Limits
• Unchanged since 2000
• Labour sponsored reviews suggest partnership limit
of lower of £5,000 p.a. or 10% of salary

JSOPs summary
• Not share awards; not options
• Employee jointly acquires shares with co-owner
(usually a trust)
• Held under terms of JOA
• Proceeds of sale unequal
• Employee receives growth (less carry charge)
• Trust receives rest
• Capital gains treatment for employee (like EMI)
• Performance link

JSOP Issues
• Shares in existence from start (hence carry charge)
• Surplus shares in conventional EBT if performance
condition fails
• Close company loans to EBT
• No CT relief on growth
• Upfront cost of participation based on initial market
value of employee’s interest (iumv)

Valuation
• Early dialogue with HMRC Shares Valuation from
which emerged ERM method
• Involves splitting the value of an existing instrument
not valuing a new instrument
• New thinking so consulted a leading mathematician

Joint ownership paradox
• Challenge to conventional option pricing theory and
valuation
• Value of employee’s interest AND co-owner’s interest
cannot exceed value of share
• Paradox the more value you attribute to the
employee’s interest the less you attribute to the
trust’s interest but initially the trust holds all the
value
• In the meantime ERM method is as good as anything

Conditions For JSOP
• Can’t use EMI
• Share value meaningful (or not certain that HMRC will
agree its not meaningful)
• If shares have nil market value then simpler to issue
shares (eg sweet equity because shareholder debt is
treated the same as commercial debt for valuations)
• Iumv sufficiently low for upfront cost to be economically
feasible
• Growth prospects; if share price can only fall or flat line
not much point as employee gets nothing
• Financial modelling to assess choices

Growth shares
• Create a new class of shares which only give the
shareholder the growth in value above the current
value
• For quoted companies new classes of shares are
usually not acceptable so growth shares are not
practicable, whereas JSOPs which are simply
agreements in contract are possible for quoted
companies as they do not require a new class of
shares to be created
• Growth shares used in unquoted companies

Valuation 1
• Growth shares are a separate instrument so the logic
for using the JSOP ERM method is weaker and may
have to fall back on using Black Scholes. For pure
growth shares this is likely to produce too high an
initial market value and cost of participation for
growth shares to be viable. Solution may be to create
conditional growth shares where the growth shares
contain performance conditions or restrictions which
depress the value of the conditional growth shares

Valuation 2
• But conditional growth shares can be very difficult to
value and even more difficult to agree with HMRC
• Assume the conditions are not restrictions for UMV
valuation purposes if contained within the Articles

Articles
• Growth share articles can get very complex and
difficult to understand
• Later awards when share value changes need a new
class/change to articles
• Complex calculations required on sale to calculate
gain for employees
• Terms of incentive award and performance
conditions on public display
• Why do lawyers prefer them ?

Quoted company JSOPs
• In place of unapproved options
• But can be combined with PSPs and matching share
awards so that growth from these awards is
delivered as capital for tax purposes
• Objections:
– cost of participation too high
– (convert after a share price dip)
– insufficient growth expectations
– non UK resident senior managers cannot benefit
• Build into rules to give future flexibility

• schemes paying bonuses -
– as loans
– as dividends
– as shares with artificially reduced value
– as shares qualifying for exemptions from Part 7, ITEPA
• NB: none of these use ‘own company’ shares
Avoidance through abuse of ESS

• HMRC contentions:
– what you get is “earnings” – how you get it doesn’t alter
that
– ‘Ramsay doctrine’ allows court to ignore steps in a scheme
– even if you have not ‘received’ anything, you have a
‘profit’ taxable as earnings
– Part 7 must be applied purposefully
Avoidance through abuse of ESS (cont’d)

• HMRC - contributions to an efurbs are ‘earnings’ for
NICs
- if you are in receipt of ‘earnings’, Part 7
irrelevant
- if dividends are ‘earnings’, they are taxed as
‘earnings’
• Taxpayers - Part 7 does what it says: if a scheme meets
the requirements, it works!
- a payment to an EBT/subtrust is not itself
‘earnings’ for income tax purposes
- a loan from an EBT is a loan, not ‘earnings’
The score so far:

• Supreme Court
– HMRC v PA Holdings – appeal withdrawn
– HMRC v Forde v McHugh – appeal pending
• Court of Appeal
– HM Revenue and Customs v PA Holdings Ltd [2011] EWCA Civ 1414 – final
– HMRC v Forde and McHugh Ltd [2012] EWCA Civ 692
– [Astall v HMRC [2009] EWCA Civ 1010]
• Upper Tribunal
– UBS AG and DB Group Services UK Limited [2012] UKUT 320 (TCC)
– Aberdeen Asset Management PLC vs HMRC [2012] UKUT 43(TCC)
• First Tier Tribunal
– Sloane Robinson Investment Services Ltd v HMRC [2012] UKFTT 451 (TC)
– Boyer Allan Investment Services Ltd v HMRC [2012] UKFTT 558 (TC)
– Aspect Capital Ltd v Revenue & Customs [2012] UKFTT 430
– Murray Group Holdings and Others v HMRC [2012] UKFTT 692
Cases

• The s425 exemption on acquisition of securities
• The (former) s429 exemption from a “chargeable event”
• The UBS and Deutsche Bank cases
• First Tier Tribunal: “is this what Parliament intended?”
• Comment of Arden LJ in the Astall case:
– “the fact that the parties intend to obtain a tax advantage is not
in itself enough to make a statutory relief inapplicable” *para 41]
• Upper Tier Tribunal: “*Part 7+ is clear in its application”
• UBS(EY) won, but Deutsche Bank(Deloitte) lost !
• s429 amended in 2004 so that exemption was available if
“tax avoidance”
The specific charging provisions
of Part 7, ITEPA 2003

• Cases in which the employees were already in receipt
of money earnings:
– PA Holdings UTT and CA
– Sloane Robinson Investment Services Ltd FTT
It’s ‘earnings’, not Part 7

• “taxable earnings” from an employment are the “general
earnings” received in that year
• “general earnings” are “earnings” plus benefits-in-kind
(etc.)
• “earnings” (per s62) includes:
– salary, wages, fee
– any profit or incidental benefit-in-kind if it is money or money’s
worth
– anything else that constitutes an emolument
• “money’s worth” means
– of direct monetary value
– capable of being converted into either money or
– something of direct monetary value
Taxation of earnings – general rules

• Employees awarded restricted preference shares in an SPV
• SPV paid dividends
• FTT found that, as a fact, cash received was a profit from the
employment
– reward for services
– by reference to services rendered
– leavers ineligible
– part of incentive process
• s20 ICTA
HMRC v PA Holdings Ltd

• Funds paid into EBT and contributed to E Ltd
• Trustee subscribed for red. prefs
• EBT awarded to employees beneficial interests in restricted shares
in E Ltd (to be held by a nominee to the order of the Trustee)
• E Ltd paid dividends directly to participants under “proper
procedures”
• FTT found that awards designed to motivate and encourage
employees and that objective was to benefit qua employees not
shareholders, ergo cash received as a profit from employment
made as a reward for services. (Note: leavers became ineligible;
clearly an employment incentive)
• FTT and UTT: as income both emoluments and dividends, Schedule
F took precedence so taxed as dividends. But divs were
remuneration for NICs
HMRC v PA Holdings Ltd:
“earnings” vs “dividends”

• CA: Were the income receipts of the employee’s profits from
employment? See:
– White v Franklin 1965 1 WLR 492
– Brumby v Milner 1976 51 TC 583)
Court must focus on character of receipt in hands of recipient
[Note: Here there were actual receipts of cash payments by
employees]
• Judgements accept that dividends on shares awarded to
employees as an incentive may be sourced from the shares,
not the employment
• Conclusion re s20 ICTA: if payments are emoluments, they are
not dividends. Sch F has no application to emoluments: s20
not in point
PA Holdings case – cont’d

• IoM company formed for each employee
• EBT subscribed at a premium (“over £1m”)
• FBT established for each employee
• The company granted a potentially dilutive subscription
option to the FBT
• Shares transferred to a nominee of employee
• Employee could take loans or other benefits
Aberdeen Asset Management

• Options did not reduce the value of the shares
• On a transfer of shares the employee received money or the
shares were RCAs
• On appeal to CA, the issues were:
– did the employee receive a payment of money (“the Ramsay issue”)?
– should the employee be treated as receiving the money owned by the
company?
– were the shares RCAs?
AAM: the FTT

• Accepted that transfer of shares was an emolument
chargeable to IT and NICs and that AAM is liable for NICs.
– But who is liable to pay income tax?
– Was it a “payment” for PAYE?
• HMRC accepted that nature of payment must allow for
deduction
• Receipt of shares was not a money payment and a non-
money benefit is not a “payment” for PAYE purposes
AAM: in the Court of Appeal

• Was the transfer of a money-box company an
emolument in the form of a benefit consisting of
money? Employee had effective control of company
and access to the money pot
• But employee had no present right to receipt of cash
from the company. His rights were not “as good as
cash” nor a “benefit consisting of money”. It was not
unreservedly at the disposal of the employee and
therefore not a “payment”

• Held: arrangements existed enabling employee to
obtain money similar to the expense incurred in
providing the shares (s702(2)), formerly s203F(3A)
ICTA) so they were RCAs and AAM liable to account
for PAYE
• Consider: is the position of an employee beneficiary
of a sub-trust analogous?

• Murray Group Holdings and Others v HMRC
• The facts (!)
• The majority 2:1 judgement
• The minority judgement
• What happens next
• The likely outcome
• The consequences for others
The “Glasgow Rangers case”

• Court of Appeal (Rimer, Arden and Ryder LJJ)
• Contributions to a furbs – were they “earnings” for NICs purposes?
• HMRC accepted that (but for s595(1) ICTA 1988) contribution not
“emoluments” for income tax (and HMRC did not argue otherwise!)
• Held (2:1, Rimer LJ dissenting) that the contributions were “earnings” for
NICs as the principles of indefeasibility (Edwards v Bairstow) and
convertibility (Tennant v Smith) do not apply
• “Earnings”, in s6(1) SSCBA 1992, includes benefits and does not imply the
need for “receipt” by the employees. The benefit was not a benefit-in-
kind or contingent, it was a profit.
HMRC v Forde and McHugh Ltd

• “A contingent entitlement to a benefit is not
sufficient to trigger liability to income tax”
per Arden LJ in Forde v McHugh

Clawback of bonuses
Julian Martin v HMRC FTT
• Clawback of taxed earnings pursuant to employment
contract may attract IT relief under s128 ITA 2007 if it
results in “-ve earnings” per s11 ITEPA 2003
• Query position of share bonuses

• hedge fund traders (directors and employees)
• dividend payment scheme using an EBT and SPVs and
individual allocations
• s18, rule 3: if a director, earnings received when sums on
account credited in the accounts or records
• Held that, on facts, bonus pool for dividend scheme and
individual allocations were fixed and credited in
employer’s accounts to the directors. Therefore, liability
had arisen under s18 (timing of receipt and s686 (PAYE)
before the (amended) scheme was given effect. PA
Holdings applied.
Sloane Robinson Investment Services Ltd
v HMRC FTT

• Boyer Allan Investment Services Ltd v HMRC FTT
– CT deductibility for EBT contributions pre-Dextra case
– no practice generally prevailing that s43 FA 1989 did not apply
• Aspect Capital Ltd v HMRC FTT
– consideration left outstanding unpaid for issue of shares in a
close company is caught by s419(1) ICTA 1988 (now s455 CTA
2010)

"Employee Share Schemes" - The Chartered Institute of Taxation

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