CSOP options – A new lease of life?
08 December 2022
As part of the infamous Mini-Budget published on 23 September 2022, the then-Chancellor announced some surprise changes to HMRC’s rules around ‘CSOP option’ grants – and they’re some of the few changes announced in that rather ill-fated reform package still to be going ahead.
The individual limit on the total market value of shares under CSOP options at grant has been kept at £30,000 for almost thirty years, inexorably eroding their value. Now the limit is hiking to £60,000 from 6 April 2023, and coupled with a relaxation to the rules around which companies can grant them, it’s reinvigorated conversations around what purpose CSOP options serve – or in other words, “can we use them, and how good are they?”
What’s the deal with CSOP options?
The lesser known cousin of the ‘Enterprise Management Incentive (EMI) option’, the ‘Company Share Option Plan (CSOP) option’ is a specific type of discretionary employee share option backed by HMRC.
Imaginatively-named, there’s often confusion as to what CSOP options are. In essence, a CSOP option may be exercised free of income tax and NICs after three years if the relevant conditions are met, or earlier in certain circumstances, such as if the employee leaves or if there is a qualifying cash takeover of the company. Any gain over the exercise price is then taxed at sale of the shares under the capital gains tax regime, at a significantly lower rate.
There are fewer eligibility requirements to meet than for EMI options, including no restrictions on the size or type of business the company runs (so far so good). However CSOP options have a few more limitations than EMI options as to their grant limits (soon to be better, but still a lot lower than the £250,000 allowed under EMI), the availability of the tax advantages (see above – and sadly, they’re not an easier way into Business Asset Disposal Relief, unlike EMI) and to some degree the flexibility around their terms (most notably, the exercise price must be at least full market value of the shares at grant).
One thing they do have in common with EMI options is the need to commission a tax valuation at grant, and the stakes are higher for CSOP than EMI if HMRC disagree with it (total disqualification if the exercise price turns out to be too high).
Nonetheless, they may be worth a private company considering where EMI options aren’t available – a chance at some tax relief may be better than no tax relief, if share options are the order of the day. For listed companies through, there remain some roadblocks in practice (see below).
Who can grant – or receive – CSOP options?
Other than the grant limit, this is the other aspect that’s changing – from 6 April 2023, more private companies will be able to grant CSOP options.
There will no longer be a need for the shares to qualify as being “employee control shares” or “open market shares”, under the so-called "worth having" restriction on share classes, which means that companies will be able to use a class of shares for their CSOP options which contain special provisions for employees.
This will align the CSOP regime a little more closely with the EMI regime and mean that more private companies with multiple share classes will be able to grant them.
Interestingly it also has the potential to make the £60,000 limit go further, as it will enable private companies to grant CSOP options over growth shares which typically have a very low upfront value (given their entitlement to participate only in future growth above a set hurdle).
Eligible companies will be those granting over fully paid up, non-redeemable ordinary share capital, and which:
- are ‘independent’ (i.e., not controlled or potentially controlled by another company, either acting alone or together with any connected party); or
- are listed on a recognised stock exchange; or
- are subject to an employee-ownership trust (EOT).
The ‘independence test’ remains the main hurdle that some private companies still will not be able to overcome, such as those companies with private equity investment.
Will there be a swing towards granting CSOP options?
Probably not for listed companies.
In practice, CSOP share options haven’t been used much by listed companies in recent years, and they likely still won’t. This is largely because market value share options are generally out of favour with listed company investors, because of a concern that they could encourage the holder to take a short-term focus on pumping up the share price. Another downside for listed companies (compared with ‘whole share’ awards, with no/nominal exercise price) is the lack of motivational effect if the option goes ‘underwater’ (i.e., if the share value dips below the exercise price), plus ‘whole share’ awards are much more attractive from both a dilution perspective (using up fewer shares to deliver the same value) and an accounting perspective. Some listed companies do still operate CSOP option schemes in parallel to their free share scheme however, and for those companies the increase to the limit will be welcome.
CSOP options will, however, likely be of greater interest to independent private companies that can’t use EMI options, which have different priorities and don’t operate under the same corporate governance constraints. For those companies, the pros and cons of CSOP options are certainly worth running through if they’re considering unapproved options (which have many benefits, but tax efficiency isn’t one of them) or more complex mechanisms geared towards achieving tax efficiency like growth shares and nil-paid shares. If the grant limit is still an issue, bear in mind that a non-tax advantaged option can be granted alongside a CSOP option to top it up.
Can we expect more changes to employee share plans?
Further reforms to employee share plans in light of the changing nature of work were considered in a parliamentary debate on 6 September 2022. A number of high-level proposals for all-employee plans were raised, including a proposed reduction in the holding period for HMRC-backed Share Incentive Plans (SIPs). The Treasury is reviewing the broader share scheme landscape and keeping these schemes under review. So watch this space.
More immediately, the changes to the capital gains tax and dividend annual allowances announced by the Government in the latest Budget on 17 November 2022 (summarised here), which are set to come in from April 2023 and April 2024, will impact participants in tax-advantaged share plans generally, but not enough to reduce their attraction where the alternative is reward taxed at (for some soon to be even higher) rates as employment income.