Generous to a fault

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Published: 28 Aug 2019

Shares as a reward

If you've thought about rewarding your senior employees with shares in the company in recognition of their past services, please take a moment to consider this very generous offer as such well-intentioned thoughts can be fraught with danger.

Now I am not proposing that an employer should act like Mr Scrooge in Charles Dickens’ “Christmas Carol”, but you should act with caution to avoid some unexpected pitfalls.

Tax implications

If you've decided to go ahead, has a valuation been made of the shares to be transferred?

“Why” you may ask.

Well, do you as the main shareholder or seller wish to receive full value?

If not, and you are prepared to give them away or sell them at undervalue, have the taxation implications on the benefits to the employee been assessed?

Unless it is part of an approved HMRC share scheme or the recipient is not an employee, any undervaluation on sale can be assessed to income tax and NI contributions on the employee and for NI contributions as a benefit in kind on the employer.

Look to the future

Rewards should be based on the value of the company’s future profits and for the employees’ future services.

What are the future intentions of the shareholders?

For instance, a 10% interest in the company was transferred to an employee and after, say, 5 years the company’s two shareholders received an offer for sale of all of the shares.

Then suppose the 10% minority shareholder did not want to sell: he was happy to remain an employee and shareholder, thinking about his security as an employee.

How can the majority shareholder resolve this without resorting to the cost of a legal settlement?

The answer is to have a shareholders’ agreement in place when the shares were transferred to the employee, setting out:-

  1. The principles of valuation of the 10% shareholding on sale and,
  2. The conditions under which the 10% shareholder/employee is required, or indeed entitled, to have his shareholding included in the sale agreement.

Similar provisions may also apply in a shareholders’ agreement, when an employee wishes to leave the company or ceases to act in good faith for the benefit of the company. In the latter case, there may be a restriction imposed in the shareholders’ agreement on the value of the shares.

These are just two examples, there are other situations that should be provisioned for before employees are rewarded shares.

If you wish to discuss this further, do give me a call on 07749 080 806 or email me.