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EMI options 101

First things first, you need to understand what an ‘option’ is. There are a couple types of options generally, but in this context: an option is an agreement that allows an employee to buy shares in your company at a future date for a set price, even if the value of those shares rises above that price.

For example:

You agree to set a price today for £1 per share for 1000 shares in your company. You set a future date (say in two years time) after which an employee can elect to buy those shares for £1,000. If after two years the market value of those shares has risen to £10,000; they can elect to buy those shares for £1,000 and make a profit ‘on paper’ of £9,000.

In legal speak, when you make that initial agreement, you are ‘granting’ options over shares. The price you initially set is the ‘strike price’. If your employee elects to buy their shares in future at the strike price, they are ‘exercising’ their options. Options granted under the EMI scheme are called EMI options.

Tax breaks for EMI options

• on the grant of options: no income tax or National Insurance contributions (NICs) is payable
• on the exercise of options:
• no income tax or NICs is payable
• employers get a corporate tax deduction
• on the sale of shares: under the ‘Entrepreneurs’ Relief’, employees pay only 10% capital gains tax on their profits (normally it’s 18% or 28% depending on their income)

Does your company qualify?

Unless your trading activities are specifically excluded, if you’re a for-profit, independent startup or SME in the UK with under 250 employees and up to £30m in company assets, you should qualify for an EMI options scheme.

In general, the types of trading activities that most UK tech startups undertake are not excluded. And by their nature, startups sit well within the 250 employee/£30m asset limits. This makes EMI options popular for startup teams.

But not so fast:

There are many rules and criteria packed into the above statements that will ultimately determine if your company qualifies. You should ideally read and understand them before seeking advice, but in summary, your company must:

• be ‘independent’;
• (if it has subsidiaries) have ‘qualifying subsidiaries’;
• sit within the company assets and employee limits;
• carry on a ‘qualifying trade’; and
• have a ‘UK permanent establishment’.

Each of these points has specific rules, especially when it comes to applying them to your company if it’s a subsidiary or parent company.

“I'd like to set up an Enterprise Management Incentive (EMI) options scheme for my company and allocate options to current and future employees. I firstly need advice on whether my company and employees qualify for EMI options; a valuation to be undertaken and notified to HMRC; and full documentation including general rules of the EMI scheme for our company and an employee share option agreement for each of my 5 employees.”

(This is a fictional, but typical type of enquiry we’ve been able to help with)

Are your employees eligible?

EMI options are typically given to more senior or ‘key’ employees, which often includes directors as they too can be employees. It’s also a great way to reward your first hires, when there’s sometimes not enough cash to pay market rates.

Most employees will be eligible because:

• they are ‘employees’; and
• they are committed to working at least 25 hours a week or, if less, spend 75% of their ‘working time’ in remunerative work.

The big exclusion is that an employee must not own or control more than 30% of the company (i.e. a ‘material interest’). For example, if a director owns 50% of the company (i.e. a founder) she cannot be issued EMI options. If she owns 20% and her husband has 15%, she would still be disqualified because her husband is her ‘associate’ and the shareholding limit includes associates such as family members.

Again, there are more detailed rules around the eligibility of employees which you should understand. Arming yourself with a little knowledge will help you and your advisor quickly focus on the more strategic aspects of your EMI options scheme.

Get the right advice

EMI options are highly complex. Set up and compliance is just one part of the equation. But before you start, there are a number of strategic questions you need to ask:

• what percentage of my company should I reserve for an ‘options pool’?
• which team members will participate and how much should they each get?
• will they receive their options up front or ‘vest’ over a set period of time?
• what happens if I fire a team member or if they leave on good terms?
• will this inhibit my ability to raise funds from angel investors or venture capital firms?

The answers to these questions will depend on the type of business you’re in, your team and your growth aspirations.

There are some rules of thumb. For example, you might hear that a 10 to 15% options pool with four year vesting and a one year ‘cliff’ is common for a startup. Or that senior level employees might be offered 0.2% to 1%. But does your startup fit the norm?

This is where expertise, built upon years of experience, comes into play.

So ask your lawyer:

• how many EMI schemes have they set up?
• were the businesses similar to yours?
• did the structures they put in place serve them well over the years to a final exit?

You need to find the right expert. So at Lexoo, we hand-pick them for you. Simply send us a few details about your business and we’ll give you multiple, fixed fee quotes so you can compare and pick the right lawyer for your EMI scheme.

How much can you expect to pay?

We’ve had a lot of enquiries for EMI option schemes come through Lexoo, and the fixed-fee quotes we’ve typically seen range between £1,250 to £3,500.

The lower-end quotes will typically confirm whether your company qualifies for EMI and cover the drafting of the EMI scheme rules and agreements for each employee, plus notifications to HMRC. The higher end quotes may also include a valuation of shares and HMRC correspondence (often through an accountant); and more tailored advice for complex structures that sit outside the norm.

It’s free to submit an enquiry and receive quotes through Lexoo. You’ll start getting quotes within 24 hours and receive three or four quotes within two business days. We only invite experienced EMI options lawyers to quote for your work.

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