RSPs are an opportunity for employers to offer employees shares above the limits imposed by the tax favoured approved share schemes. Awards under an RSP are commonly used as a means of rewarding, incentivising or retaining employees or for a combination of these objectives. The RSP is usually used on a selective basis. The plan is structured so growth in value of the shares is taxed under the more favourable capital gains tax regime.
What is an RSP?
RSPs are used by listed and privately held companies, to encourage employees to own shares in their employing company and to participate in the growth of the company. The shares offered carry restrictions which reduce the value of the shares on acquisition. If the necessary elections are made and income tax paid at the outset, the growth in the value of shares will be taxed as capital gains.
Why use an RSP?
The plan can be used as a long term incentive plan to retain and motivate key employees. The restrictions will be aligned to the company's business objectives.
Employees value both the tax efficient nature of the plan and the opportunity to participate in the growth of the company which in turn can have a positive impact on motivation and retention.
How does an RSP work?
The employee is awarded restricted shares in the employing company (or if a group it may be in the parent company). The employee and employer make a joint election for income tax to be assessed up front on the unrestricted value of the shares less any consideration paid. No additional tax charge will arise when the restrictions are lifted. The shares can be held in a trust until the restrictions are lifted or the employee can own them outright. If the shares are held in the trust care needs to be taken to ensure that the 'disguised remuneration' legislation does not apply.
The company can offer the employee a loan to cover the acquisition price of the shares along with the up front income tax liability, if any. The loan would usually be repayable at the earliest of a specified time or the employee leaving employment.
Accounting
Under both UK GAAP (current and FRS 102) and IFRS the RSP will be regarded as a share- based payment arrangement.
Share-based payment arrangements can be either 'equity-settled' or 'cash-settled'
When the RSP is accounted for as an equity-settled arrangement, the charge to the profit and loss account is calculated by reference to fair value at grant date determined using an appropriate financial model and is not re-measured at each reporting date. The period over which the charge is made will be determined by the terms of the arrangement. When the RSP is accounted for as cash-settled, the fair value of the future liability is re- measured at each reporting date and again at settlement. Advice should be sought as it is not always certain which accounting method will apply and this may vary between the group and subsidiary level.
Corporation tax
The employer will usually qualify for a corporation tax deduction on the amounts on which income tax is paid, providing the shares satisfy the conditions as 'qualifying shares' for this purpose at the time of the award. If the company is close and there is a loan to a participator, consideration will need to be given to whether there is a charge under the 'loan to participator rules'.
Income tax and NIC
The employee elects to pay income tax up front based on the unrestricted market value less any consideration paid. There is then no additional income tax on the lifting of the restrictions. If an election is not made to pay the tax upfront, an NIC charge arises on the lifting of restrictions. It is possible for the employee and employer to agree for the employee to meet the employer's NIC cost.
The loan to acquire shares can be interest free or interest bearing. To the extent that the loan is interest free or provided at a rate lower than the HMRC official rate of interest, there would be an income tax and NIC charge on an imputed rate (4% per annum at the time of publication). If the employee is a full time working director of a close company, the imputed tax charge should not apply. If at any time the loan is waived by the company, an income tax and NIC liability will arise. However, if the company is a close company the loan waiver may in certain circumstances be treated as a dividend and taxed at the dividend rate.
Capital gains tax
A capital gains tax liability will arise when the employee disposes of the shares. The chargeable gain will be based on the sale proceeds less any consideration given to acquire the shares plus any sum subject to income tax, subject to the special rules for share cost 'pooling' where the employee also holds other company shares.
For whom is a RSP suitable?
The use of a RSP is particularly attractive to the types of employers set out below.
- Companies seeking to align the employees' interests with those of the company and other shareholders to ensure growth.
- Companies seeking to implement a tax efficient long term incentive plan.
- Companies looking to lock-in key employees in the medium term.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
