What is a Company Share Option Plan (CSOP)?
A CSOP is an option based employee share scheme. An employee is granted a CSOP option to acquire shares in the employing company (or its parent company) for a set ‘exercise price’. The exercise of the option can be subject to time-based vesting and/or meeting objective performance conditions.
Advantages of CSOPs
- Aligns the interests of the employee with the shareholders.
- No complication of creating a minority interest or voting conflicts if the option is only exercisable on an exit (see below).
- Employers can attract executives who are key to the business (but whose salary expectations are more than the employer can afford in salary terms) with the promise of equity in the company (subject to performance targets).
- Low risk for employers, if the employee doesn’t meet the performance targets set they won’t receive any shares. Conversely rewards employees’ tax efficiently if they do meet performance conditions.
- No risk to employee - if the value per share sinks below the exercise price then they can walk away with no cost or tax consequences. Compare this with a share the employee might have been invited to purchase which decreases in value.
- If there are reasons why Enterprise Management Incentive (EMI) options (which are more flexible and straight forward to administer than CSOP options) cannot be used, CSOP options are a tax efficient substitute.
The tax benefits of CSOPs
Provided the legislative requirements are met:
Relevant statutory conditions
- there will be no tax on the grant of a CSOP option
- there is no income tax liability on the exercise of the CSOP option provided that the date of exercise is at least three years and no more than ten years after the option grant date
- there is no income tax liability if the option holder has died or left employment for certain reasons including disability, injury and redundancy within three years of the option grant date
- on disposal, Capital Gains Tax (CGT) would apply after the deduction of any unused portion of the CGT annual allowance (currently £11,100) and entrepreneur’s relief might be available (if the holding meets the relevant conditions).
- In order to qualify for CSOP purposes both the company and the participant have to meet certain statutory criteria.
- There is an individual limit on the unrestricted market value per individual participant of £30,000. This value is calculated at the time of grant.
What kind of incentive are CSOPs?
An option is an indirect form of employee share incentive meaning that the employees who are granted CSOP options will not directly own any shares until the option is exercised. Typically options are not exercised until an ‘exit event’ such as a change of control in shareholders, a sale of the business and assets or a floatation meaning that the employee will only become a shareholder for a moment in time immediately before the exit before selling their shares onward.
However, if an employee might become a shareholder otherwise than on an exit, employers will want to consider the following:
- whether a new class of shares should be created and used
- what should happen if the employee ceases to be employed; should they be allowed to keep or be required to sell the shares they own
- whether a shareholder’s agreement is needed and if the existing articles of association are fit for purpose given the possibility that an employee will become a shareholder.