A popular way to reward employees is to offer them shares in your company. These are called employee share schemes. One way you can do this is to set up a scheme called a Share Incentive Plan or SIP. Under a SIP, you can give shares to employees or allow them to purchase them from their pre-tax income. While SIPs do take time to set up and need to be administered year-on-year, employees like them. They’re most suitable for listed or larger, private companies. See our employee share scheme FAQ guide for more information.
In this guide we take a look at how SIPs work, and their tax-advantaged features.
Jump to:
- What is a share incentive plan (SIP)?
- Eligibility criteria to participate in a SIP
- Share incentive plans: guidance for employers
- How to put together a share incentive plan
- What administration needs to be taken care of?
- What are the tax implications of a SIP?
- What are the advantages/disadvantages of SIPs?
- How do I set up a share incentive scheme?
What is a share incentive plan (SIP)?
A Share Incentive Plan is a scheme that many employers use to provide an additional reward for their employees. If you want to offer your staff shares, one of the most tax-efficient ways to do so is via a SIP.
Setting up a SIP can be complicated, so you will need the help of a lawyer to draft the plan documents. The scheme will need to be administered properly year-on-year to ensure you secure the tax advantages. A SIP is set up as a form of trust, administered by independent trustees. The shares must stay in the plan for at least three, and for up to five, years in order to qualify for full tax benefits. Shares may be one of the following types:
- Free shares. You can give your employees up to £3,600 worth of shares every tax year, provided you give them to all employees on the same terms. If your employee leaves before the qualifying three-year period, their shares can be lost.
- Partnership shares. Employees can buy up to £1,800 worth of ‘partnership shares’ from their pre-tax and NIC salary every year. The employer won’t pay NIC on the purchase price.
- Matching shares. Employees can offer employees matching up shares of up to two shares for each partnership share bought.
- Dividend shares. Employees holding SIP shares can use any dividends they receive on those shares to buy new shares.
Eligibility criteria to participate in a SIP
If you wish to set up a SIP, both your company and the employees must meet certain eligibility criteria. Your company must be an independent private company or a listed company or under the control of an Employee Ownership Trust , and you must invite all of your UK employees to join on the same terms. The shares offered must be ordinary shares.
Share incentive plans: guidance for employers
- When you set up a SIP, you can offer free shares, partnership shares, or a combination of both. You can also offer matching shares and dividend shares. So long as your employees stay with you, their shares will be held under a trust that qualifies under the requirements of the SIP code. When they leave, their shares will come out of the SIP automatically.
- Provided that your SIP qualifies under the legislation, then the SIP will be ‘tax-advantaged’ – if shares remain in the SIP for between three and five years, they will be fully or partially free of income tax and NICs. If they rise in value, no capital gains tax will be payable whilst they are held in the SIP. This capital gains tax shelter is particularly attractive given that the annual exemption from capital gains tax is falling to £3,000 with effect from April 2024.
- To set up a SIP, your company must be independent, listed, owned by a listed company, or under the control of an Employee Ownership Trust.
- You must offer ordinary shares which meet certain legal criteria.
- Employees that are UK tax resident must be invited to join the SIP.
- All employees must be invited to join the SIP on broadly the same terms. You can set a qualifying period of service before employees are eligible to participate in awards under the SIP.You must set up a UK-based trust to hold the SIP shares.
- You will choose a trustee to administer the trust (often a professional body) that will keep records and correspond with the plan participants and file returns with HMRC. You can set up a company to administer the trust if you want to, although this can be burdensome and expensive to administer.
- You can’t offer cash instead of shares or select different categories of employee who may participate.
- There are annual financial limits on the value of shares of the different types which can be delivered through the SIP – see 'What is a Share Incentive Plan'.
- When an employee leaves, their shares leave the SIP.
- Your costs to set up the SIP are deductible for corporation tax, as is the market value of any matching shares or free shares you offer.
How to put together a share incentive plan
Drafting key documents
In order to set up a SIP, you will need to put together a trust deed, a set of rules for the SIP, and certain other agreements for the share award depending on type. You will then certify to HMRC that your plan meets the SIP code requirements.
Notifying HMRC
When you have set up your SIP, you must tell HMRC by 6 July of the following tax year and certify that your plan meets the necessary qualifying requirements.
Appointing trustee/administrator
You must appoint a trustee to administer your trust. This can be a professional body, or you can set up a company to administer the SIP for you, and act as trustee.
Share valuation
If you need to agree the market value of shares with HMRC, you need to submit a special application form and agree with HMRC the methodology you have used to calculate it.
Shareholder approval
Because existing shareholders can be diluted by the existence of a SIP, you may need to get their approval if you want to set one up. To find out if you need shareholder approval, you will need to review your Articles of Association and any shareholders agreement that’s in place. Listed companies on the Main Market normally need the consent of their shareholders before setting up a SIP, but those on the AIM normally do not.
Any share capital issues
While existing shareholders are normally protected by law against their shares being excessively diluted, shares offered under employee share schemes are exempt, and shareholders won’t be offered the right of first refusal over the employee shares.
Review your plans
It is important to review your employee share plans regularly. See our article on the importance of reviewing your employee share scheme for more information.
What administration needs to be taken care of?
You will need to file an annual return to HMRC by 6 July of each tax year, and there are penalties for failing to comply. There are ongoing administrative requirements and communication requirements to employees.
What are the tax implications of a SIP?
Employees buy partnership shares out of their pre-tax income. They won’t pay any income tax or NICs provided they hold their shares for at least five years. If they take shares out of the SIP after five years, they won’t pay CGT if they sell the shares immediately but will pay CGT on any gain that occurs from the date the shares are withdrawn.
If an employee withdraws shares within three years from the date they acquired them, they will pay income tax and NIC on those shares.
If an employee withdraws shares between three and five years, they will pay tax and NIC on the lower of the market value of the shares when they are withdrawn, and the salary they used to buy the shares (or the market value of their shares when they become entitled to them in the case of matching and free shares).
If an employee withdraws shares from a SIP in the case of their death, injury, disability, redundancy, retirement or TUPE transfer, there will be no income tax payable.
You will get corporation tax relief on the employee’s payment for the shares, any additional costs of providing the partnership shares in excess of the employee payment, the market value of any matching or free shares, and your admin costs to administer the scheme.
What are the advantages/disadvantages of SIPs?
Advantages
- The plan creates 'corporate glue' and provides a common benefit to all employees in the company.
- Employees become small shareholders from day 1 (unlike an employee share option scheme) and there is alignment with management shareholders and investors.
- The different award types offer significant operational flexibility. Employees can be given the opportunity to regularly invest through partnership shares with a match as an added incentive. Milestones can be celebrated through one-off free share awards. There is also no restriction on setting a time period over which the award is available in relation to partnership and matching shares. This flexibility is attractive compared to salary increases which once made, are more difficult to unwind.
- Employees are more engaged and motivated as owners and benefit from equity growth in the company, which is improved with tax relief.
- Having a SIP in place can discourage employees from leaving, as they will lose their tax advantages.
- Your costs to set up and administer the plan as well as the cost to provide free and matching shares are tax deductible.
Disadvantages
- SIPs can be expensive to set up and administer and are more complicated than simply increasing salary payments to staff.
- The value of shares can drop, and an employee may lose their money if your company fails.
- There are holding periods of up to 5 years for employees to fully benefit from the tax reliefs.
How do I set up a share incentive scheme?
If you want to set up a SIP, you should take expert legal advice from an experienced employee share scheme solicitor. Your company may need to qualify under the scheme, and you’ll need to certify this to HMRC, and register the scheme with them by 6 July after the end of the tax year in which it’s set up.
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