With clear links between employee ownership and higher productivity, as well as improved performance on a social and economic level, an Employee Share Scheme (ESS) could be the answer.
An ESS program can give your employees tax-efficient ownership. In addition, start-ups that do not have the means to offer existing and new employees a salary that matches the market rate, an ESS could be the edge to securing great talent.
The Australian government is keen to build the start-up economy. With certain ESS concessions for start-up companies (start-up concessions) and the amended deferred taxing point rules, offering shares or options in your business can be an attractive option for both parties.
An Employee Share Scheme (ESS) can give employees shares in the company they work for or the opportunity to buy shares (called a right or option) in the company.
ESS’s can also be called Employee Share Purchase Plans, Employee Equity Schemes or Employee Share Option Plans (ESOP).
Start-ups can offer employees shares in the company in several ways –
- Employees pay for the shares fully, up front with their own funds
- Provided as a loan from the business to buy the shares under their name
- Paid for through salary sacrifice over a set period of time
- By using the dividends received on the shares
- Employees on higher salaries may receive shares as part of their performance bonus or as part of their remuneration.
Why your start-up should offer an ESS
Research has shown that companies, in general, which implemented employee share schemes had lower employee churn and higher job growth, as well as higher sales, labour productivity and value-added growth.
Employees of start-ups can accept ‘share options’ as part of their salary. These share options can be structured so they are not taxed up front.
Start-up tax concessions for offering an ESS
The Australian Federal Government has made several changes to the legislation to make it easier for start-ups to offer ESS and to improve the taxation of employee share schemes.
This includes standardised ‘safe harbour’ methods of valuing ESS interests, as well as a deferred taxing point for shares and rights provided to employees for qualifying start-ups.
How do you set up an ESS for a start-up?
It is best to seek the help of your accountant and lawyer when setting up an ESS to ensure you meet compliance and legal obligations.
To begin the ESS process and comply with the concessions, follow these steps –
- Check your startup is eligible to offer an ESS with tax concessions
A company is classified as a start-up for an income year if at the end of its most recent income year before the ESS interest was acquired –
- The start-up and any subsidiaries or its holding company and any subsidiaries were not listed on a stock exchange
- It has been incorporated for less than 10 years
- The company’s aggregated turnover did not exceed $50 million.
- Calculate the valuation of your shares
The ATO has issued two safe harbour valuation methodologies which start-ups can use to value their shares for an ESS.
- A formal valuation or
- A net tangible assets test – a start-up must satisfy certain eligibility criteria to use the net tangible assets test to keep the share price/exercise price down. The net tangible assets test enables start-ups to issue shares or grant options with a share or exercise price that is lower than the share’s market value. The start-up tax concessions mean that an employee in an ESS must only pay tax on a share or option that it acquires when it receives a financial benefit.
- Create an ESS
You will need the help of your accountant and lawyer to create an official written policy that outlines the formal rules of eligibility and conditions of the ESS securities.
If applicable to your business, a Director/s or shareholders resolution approving the implementation of the ESS by the company will need to be drawn up.
Tax advice on the implications of the ESS should also be obtained.
- Offer the shares to eligible employees
To be eligible for the start-up ESS tax concessions in the employee’s employer or holding company, you must meet the following criteria when offering an ESS to employees;
- The company cannot grant an ESS interest to an employee who either holds more than 10% of the shares in the company or controls more than 10% of the vote at a general meeting.
- As a share scheme, the company must offer shares to at least 75% of its Australian resident permanent employees who have completed at least 3 years’ service (but ESS granting rights can be selective in who offers are made to)
- When issuing shares, the share price must be at least 85% of the fair market value. In the case of a share, it must be issued with a discount of not more than 15% of the market value of the share. All ESS interests offered must be ordinary shares. Options must be issued with an exercise price at least equal to the current market value of the underlying shares.
You must provide a formal written offer inviting employees to take up the ESS securities, which outlines the employee’s obligations if they choose to accept the offer. The employee will need to respond in writing their acceptance of the ESS offer, the rules and obligations of acceptance.
- Issuance of Securities
Documentation and evidence of the issuance of the securities must be provided to each employee, as well as their share certificate.
- Update registers
Update company registers with the new shares issued and notify ASIC of the updates.
Benefits of an ESS for the employee
An employee share scheme sends a message to employees, that management believes strongly in what they are doing and suggests that the company they are working for is willing to give back to its team.
International Accounting Solutions has experience in setting up employee share schemes especially for start-ups and can advise if an ESS is a valid option under your circumstances. You can reach our team at 1300 319 870 or contact us here.
Further reading & help for start-ups in Australia
Poor cash flow management can really affect a start-up, not just in the short-term but can limit your business’ future plans and growth. Here’s our guide to take control of your cash flow now!
Six reasons why your start-up should expand to Sydney (besides our beautiful sunny days and moderate temperatures!)