Management incentives and how to reward the people helping your business grow

For a growing business, attracting the right management team is only part of the challenge. Keeping those people motivated, rewarding their contribution and giving them a reason to stay through the next stage of growth can be just as important.

Share incentives can help align the interests of founders and their leadership teams. But their success depends on more than the percentage offered. However, the timing, valuation, tax treatment and what happens when someone leaves, all influence whether an arrangement delivers what everyone expects.

Jeremy Glover, Partner at Jurit, recently joined the International Business Structuring Association (IBSA) podcast for the final episode of its Growth of a Business series, exploring the practical decisions behind tax-efficient management incentive plans.

When should a growing business introduce incentives?

According to Jeremy, there is a balance to strike between putting incentives in place early and waiting until the right leadership team has taken shape.

Introducing a plan while share values are relatively low can give participants greater opportunity to benefit from future growth. However, founders also need to consider who will help deliver that growth and how much ownership they are prepared to share.

The starting point should be the commercial objective. Is the business recruiting senior talent, retaining an established team or encouraging management to work towards a future sale?

Answering those questions helps determine who should participate, what they should receive and when they should become entitled to it.

Avoiding a tax bill without the cash to pay it

One of the risks discussed in the podcast is a “dry tax charge”. This is a tax liability arising when an employee has received shares or exercised an option but has no sale proceeds with which to pay it.

An award may look attractive on paper, yet create a difficult cash-flow problem if the employee cannot sell their shares.

This makes the timing of potential tax charges an essential part of the design process. Businesses should understand the consequences at each stage, from the initial award through to exercise and sale, including any employer National Insurance exposure.

Why EMI options can be attractive

For eligible businesses and employees, Enterprise Management Incentive (EMI) options can provide a tax-efficient way to share in future growth.

An option gives an employee the right to acquire shares later on agreed terms.

Qualifying EMI options generally carry no Income Tax or National Insurance charge on grant. Exercise can also be free of those charges where the relevant conditions are met, including an exercise price at least equal to the shares’ market value when the option was granted.

Capital Gains Tax may instead arise when the shares are sold. An arrangement allowing exercise at the point of a company sale can therefore help align participation with the availability of cash.

However, this treatment is conditional. Eligibility, discounted exercise prices and events affecting qualifying status all need careful consideration. EMI should never be presented as an automatic guarantee of a particular tax outcome.

Getting the valuation right

Valuation underpins both the commercial offer and its tax treatment.

The rights attached to the shares, restrictions and the size of the holding can all matter. A management stake should not simply be priced by applying its percentage to a headline company valuation.

For EMI options, businesses can seek agreement of the share valuation with HMRC. Recent investment transactions and changes in the company’s circumstances also need to be considered when establishing an appropriate value.

Growth shares offer another approach, allowing employees to participate in value above a specified hurdle. But a hurdle does not necessarily mean the shares have no value when issued. Getting the initial valuation wrong can create unexpected employment tax consequences.

Planning for contribution, departure and change

The terms governing participation deserve as much attention as the initial award.

Vesting provisions can link entitlement to continued service, performance or agreed milestones. Leaver provisions determine what happens if someone departs before the business reaches its intended destination.

For founders and management alike, clarity matters. Participants should understand when their rights accrue, what they may retain on leaving and how different departure circumstances will be treated.

These discussions can be uncomfortable at the outset, but resolving them early helps reduce uncertainty later.

Looking beyond UK borders

International growth adds another layer of complexity.

A business with an overseas parent, UK employees or plans to expand into the US, for example, needs to consider how its incentive arrangements operate across jurisdictions. An employee’s relocation can also affect the analysis.

UK tax advantages should not be assumed to apply elsewhere. The employee’s circumstances, working arrangements and relevant domestic and treaty rules need to be reviewed before conclusions are drawn about the tax treatment.

Building incentives around your business

A successful incentive plan gives key people a clear understanding of how their contribution can translate into future reward, while supporting the company’s wider growth plans.

For founders, that means considering incentives early and reviewing them as the business, its ownership and its management team evolve.

Listen to Jeremy Glover’s conversation with the IBSA: Tax Efficient Management Incentive Plans.

To discuss management incentives, EMI options or the implications of rewarding an internationally mobile team, contact Jeremy Glover for a no obligation discussion.