Employee shareholder contracts: How will shares for rights work?

Emma Bailey and Jaspal Pachu, partner and senior associate at law firm Fox Williams, have a look at the upcoming 'employee shareholder' legislation to see which businesses it will be best suited to.

September 2013 sees the introduction of a new employment status: the ’employee shareholder’.

Employers will be permitted to give an employee shares in return for that employee giving up certain fundamental employment rights. Shares awarded under the new arrangements will enjoy tax reliefs.

Jobs can be offered to new employees subject to them adopting ’employee shareholder’ status, but existing employees cannot be forced to switch to employee shareholder contracts.

What rights are given up?

Employees are required to forfeit their rights in relation to unfair dismissal (except where the dismissal is automatically unfair or for discrimination) and statutory redundancy payments. They also lose the right to make a flexible working request, or a request for time off in relation to study or training. Employees who are engaged under such contracts must provide their employer with extended notice (16, rather than eight, weeks) of when they intend to return from maternity (or adoption) leave.

What shares need to be given in exchange?

Broadly, the employee must receive fully paid up shares (in either the employing company or its parent) with a minimum value of £2,000 (there is no maximum value).

What is the tax treatment?

The first £2,000 worth of shares received are free from income tax and national insurance contributions, but any value over £2,000 will be subject to income tax and NICs on acquisition. Any gain on a later disposal of the shares (up to a maximum of £50,000 worth of shares valued on acquisition) is exempt from capital gains tax.

Are there any legal/administrative issues?

In addition to the legal and administrative costs of implementing the structure, the employer is obliged to explain the rights the employee is giving up, and provide written details of the shares being offered and the rights and restrictions attaching to them.  A new employee must be given a seven-day cooling off period and must receive independent legal advice before they accept the offer, with the employer making a reasonable contribution towards the employee’s legal fees.

More on employee shareholder contracts:

Will the new employer shareholder status prove attractive?

An employer will need to consider whether the types of employee they are looking to recruit will want the new status. It is likely to be more attractive to senior employees, who are less concerned about retaining unfair dismissal and redundancy protections and are keen to have tax efficient equity participation, than more junior staff.

Employers will need to weigh up the benefits arising as a result of the reduced employment rights against the legal and administrative costs of implementing the structure and advising prospective employee shareholders. They will also need to bear in mind that increasing share ownership generally can have its own issues.

Whilst there is no obligation on an employer to buy back shares from an employee shareholder who ceases employment, employers (other than listed companies) will typically want to require the employee to sell back their shares. This causes its own difficulties. For example, how much will the shares be bought back for? This can impact on the value of the shares on acquisition. And if the shares are to be bought back for market value, where will the resources be found to buy back the shares?

The need to value shares – on acquisition and on any buy back – is likely to prove a significant disincentive to many unlisted companies. Though the arrangements were intended to benefit such companies, there is no ready market for their shares, so an independent valuation will be needed. And if an employee can successfully argue that they didn’t actually receive £2,000 worth of shares, then they will not be an ’employee shareholder’ and will not be deemed to have given up their employment rights.

In practice, the new status is likely to be most attractive to companies with significant potential for capital growth that are already using employee share schemes to incentivise and reward key personnel, and have experience dealing with the valuation and other practical issues that arise. Many employers may take the view, however, that the benefits offered as a result of the reduced employment rights do not outweigh the costs and other difficulties of putting in place such arrangements, in particular for lower paid employees.

Hunter Ruthven

Hunter Ruthven

Hunter was the Editor for GrowthBusiness.co.uk from 2012 to 2014, before moving on to Caspian Media Ltd to be Editor of Real Business.

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