Growth shares – share schemes
Growth shares are a particularly good share incentive for non‑employees. In contrast to share options (EMI or unapproved), growth shares allow employees (and other recipients) to become shareholders immediately. This type of share can be incredibly flexible - it does not have to meet any statutory requirements or limits and ‘conditionality’ can be applied to protect the business.
Why do businesses give growth shares?
- Attract and retain the best people even if not employees
- Align interests by giving recipients a sense of ownership
- Reward contributions with equity rather than/or as well as cash
- Enables everyone who helps you grow the business to share in its success
What is a growth share scheme?
Growth shares are issued at a ‘hurdle rate’ and provide employees, contractors, advisors and consultants with a share in the capital growth of the business from the point at which they are issued.
For example, if they are issued at a ‘hurdle’ of £1 per share, they will only share in any eventual net sale proceeds that are over and above £1 per share. As such, existing shareholders are only value diluted for growth from that point, rather than the existing worth of the company.
Recipients of growth shares don’t have to pay income tax on exercise, only capital gains tax on sale. This scheme can be complex to create if done manually but is incredibly simple using Vestd.
What are the main advantages?
- By using growth shares you can limit the risk of the recipient having to pay Income Tax on receipt of the shares
- Growth shares are designed so that recipients only share in the capital growth of the business from the point that the shares were issued
- Minimises dilution on existing shareholders
- You can set conditions for recipients, such as achieving milestones, or staying with the company for an agreed period of me, so long as your Articles of Association have been drafted to enable this
- Shares are issued immediately
- A great alternative to EMI options for businesses that are not likely to sell in the short term
What are the main disadvantages?
- Unless the shareholding exceeds 5% at the point of exit, there is no Entrepreneurs’ Relief, so the normal rate of Capital Gains Tax will apply once they have been cashed in
- The value of the growth shares cannot be agreed in advance with HMRC
What are the qualifying criteria and limits?
For the business or recipient
- There are no restrictions with growth shares
For the shares
- The shares are a new and specific class of share
- They can be voting or non-voting
We often get questions whilst helping customers set up their growth share schemes. Here are the most common, which might clear a few things up while you explore your options. If you need further explanation or have additional questions we’d love to help. Speak to one of our specialists for free...
What happens if you give a team member shares and they leave or don't meet expectations?
If the share award is still within its ‘conditional period’ then the shares can easily be fully or partially cancelled. It’s important to set this period to be sufficient to judge if the person has met expectation. Once the shares are ‘unconditional’ the recipient is the full owner of those shares (whether they stay with the business or leave) and you will not be able to cancel the award.
How does tax work with growth shares?
On sale, growth shares are taxed as a capital gain, so normally around 20%. In contrast, unapproved options normally attract a marginal tax rate of 40%, if exercised at exit, as they are then treated as income.
Can growth shares have a vesting schedule?
Yes, you can set a vesting schedule in a similar way to options. However, the ‘vesting’ is essentially the removal of the conditionality from a proportion of the total shares at specific dates.
Are my current articles of association compatible?
Usually, we find that some additional elements need to be made to a company’s existing articles to ensure there are sufficient protections for the business to ensure dilution and exits are handled correctly. If you don’t have these provisions you can use the Vestd articles for free. These articles have been carefully configured by our legal partners, CMS, to ensure that they future proof the company (to the extent possible) to how it might develop, be invested in, and eventually make a sale.
Should there be any conditionality or performance criteria for vesting?
Each growth share award can include a unique and specific set of qualifying criteria. This could be as simple as ‘turn up each day’ or more specific and linked to key project milestone or helping the business meet specific targets. What’s most important is that the criteria is clear and not subjective.
Are growth shares definitely right for me given my specific situation?
Do I need a valuation to issue growth shares?
Yes, all growth shares are issued at a hurdle rate. This is typically a small premium above the company’s value today. Unlike EMI, this value can not be pre-approved with HMRC. However, a valuation (carried out with the support of Vestd or by your accountant) will usually provide a good degree of comfort. Normally, depending on the nature of the company, a premium of 10-40% may be applied to the market value to reflect any “hope value” of the shares, and thus further mitigate any risk of HMRC deciding at some point in the future that these shares had been undervalued at issue. In a worst case scenario, if they so decided, they would charge income tax on any differential between the hurdle and their determined market price at the time.
Who does my valuation and how much does it costs?
If the valuation is carried out by Vestd it is included within the Standard or Pro plan. If your accountant conducts it then you will need to ask them for a quote.
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