EXPLANATORY NOTE

Clause 61 and Schedule 14 introduce Enterprise Management Incentives which are tax-relieved share option incentives to help small higher risk trading companies recruit and retain people with the skills they need to help the companies grow. From the date of Royal Assent, options over shares worth up to £100,000 can be granted to up to 15 key employees. There is normally no income tax to pay when an option is exercised, and when the shares are sold capital gains taper relief will normally start from the date of grant of the option. (Rev3, Rev4, & Rev/C&E1)

• the general requirements and requirements relating to the terms of the options in Part II and Part V are met;

• the shares subject to the option are in a qualifying company (Part III);

• the individual is an eligible employee in relation to that company (Part IV);

• the option is granted to the employee by reason of his employment with that company or with the parent or another group company (defined as the "employer company").

1. "The relevant" company is defined as the company whose shares are the subject to the option.

 

2. Paragraph 2 sets out the requirements that the notice of option must meet for the option to qualify. These are that:

• the Inland Revenue must be given notice within 30 days of the grant of the option;

• the employer company must provide this notice, in a form required by the Inland Revenue;

• the notice must contain, or be supported by, any information the Inland Revenue may require in order to determine whether the requirements of the Schedule have been met;

• the notice must contain a declaration by the employer company, stating that the requirements of the Schedule are met by the option grant, and that the information provided is correct and complete and

• a declaration by the employee that he meets the commitment of working time requirement.

 

1. Paragraph 3 allows the Inland Revenue to amend a notice to correct obvious errors or omissions in the notice. A correction is made by notice to the employer company. It cannot be made more than 9 months after the day the notice was provided to the Inland Revenue. Any correction has no effect if the employer company rejects it within 3 months of the Inland Revenue issuing the notice.

 

2. Paragraph 4 sets out details relating to a notice of enquiry. The Inland Revenue may enquire into an option for which they have received notice under paragraph 2, providing that they give the employer company notice of their intention to do so. The Inland Revenue may enquire into whether the working time commitment requirement is met by the employee in relation to such an option provided that they give him notice of their intention to do so. A copy of any notice enquiring into working time will be given to the employer company.

3. Notice of enquiry may be given at any time during a period of twelve months, beginning with the end of the period of 30 days after the grant of the option. Where the Inland Revenue discover that any of the information provided in or in connection with the notice required under paragraph 2 was false or misleading, notice of an enquiry may be given at any time.

4. An option that has been the subject of a notice of enquiry may not be subject to another notice again unless the Inland Revenue discover that any of the information provided in or in connection with the notice required under paragraph 2 was false or misleading.

 

5. Paragraph 5 deals with the completion of an enquiry and states that an enquiry is complete when the Inland Revenue inform the employer company by notice of this and state their decision. If the decision of the Inland Revenue is that the terms of the Schedule have not been met, the individual to whom the option was granted must also be informed. An enquiry under paragraph 4 (commitment to working time) is completed when the individual and employer company are informed by notice that the enquiry is completed and the Inland Revenue state their decision.

6. A "closure notice" takes effect when it is issued. The employer company or the individual, where paragraph 4 applies, may apply to the Commissioners to direct the Inland Revenue to provide a closure notice within a specific period of time. Any application for this must be heard and determined in the same way as an appeal. The Commissioners hearing an application must give a direction unless they are satisfied that the Inland Revenue have reasonable grounds for not doing this.

 

7. Paragraph 6 provides that if the Inland Revenue do not give notice of an enquiry, the terms of the Schedule are taken to have been met. Where the Inland Revenue do give notice of an enquiry, the decision of the closure notice is conclusive as to whether the requirements of the Schedule are met. This decision is, however, subject to the outcome of an appeal or the results of any further enquiry under paragraph 4 (discovery of false or misleading information in the original notice). This paragraph does not affect the provisions contained in paragraphs 47 to 52 which deal with disqualifying events.

 

8. Paragraph 7 allows the employer company to appeal against a decision that the notice of the grant was not given in accordance with the requirements in paragraph 2 regarding the correct provision of a notice, or against a decision that the requirements of the Schedule have not been met in relation to the option. An individual may appeal against a decision that he does not meet the working time requirement in paragraph 29.

9. Notice of the appeal must be given to the Inland Revenue within 30 days after the closure notice is given to the company or employee. The appeal lies to the General Commissioners or, if the employer company or individual chooses, the Special Commissioners (in accordance with section 46(1) of the Taxes Management Act 1970).

 

10. Part II of this Schedule contains the general requirements for a qualifying option.

 

11. Paragraph 8 provides that an option is not a qualifying one unless the requirements are met as to the purpose for which an option is granted, the maximum entitlement of an employee and the maximum number of employees who can hold qualifying options.

 

12. Paragraph 9 states that an option qualifies under this Schedule only if it is granted for commercial reasons in order to recruit or retain a key employee in a company. It will not qualify if it is granted as part of a scheme or arrangement the main purpose, or one of the main purposes, of which is the avoidance of tax.

 

13. Paragraph 10 sets out the maximum entitlement of an employee. It states that an employee may not hold more than £100,000 worth of unexercised options at any time in any one company or group of companies. Where the limit of £100,000 is already exceeded at the time an option is granted, it does not qualify. Where an option causes the limit of £100,000 to be exceeded, the excess over that limit will not qualify.

14. Where an employee has been granted by reason of their employment qualifying options up to the £100,000 limit, no further qualifying options can be granted by reason of their employment within three years of the date of the grant of the last qualifying option..

15. If an employee holds CSOP options by reason of employment with the employer company or where that company is a group member, any group company, those options shall be treated as unexercised qualifying options for the purposes of this paragraph. "CSOP option" is defined as an option acquired under Schedule 9 of the Taxes Act 1988 by reference to Part IV of that Schedule.

16. The value of shares means the market value at the time the option is granted of shares of the same class as those that may be acquired by exercise of the option. An option is treated as granted in respect of the maximum number of shares which may be acquired under it.

17. For the purposes of this paragraph, the market value of shares subject to restrictions or risk of forfeiture is determined as if there were no restrictions or risk. Shares are deemed to be at "risk of forfeiture" if the interest acquired is only conditional within the meaning of section 140C of the Taxes Act 1988.

 

18. Paragraph 11 states that not more than 15 employees may hold qualifying options in the same company at the same time.

 

19. Part III of the Schedule contains the requirements which must be met for a company to qualify.

 

20. Paragraph 12 provides that a qualifying company must meet the requirements set out in the rest of this part regarding independence, the possession of only qualifying subsidiaries, gross assets and trading activities.

 

21. Paragraph 13 requires that company is not controlled by either another company, or another company and persons connected with the other company, and that there are no arrangements which could result in the company becoming controlled. "Control" has the meaning given in section 840 of the Taxes Act 1988.

 

22. Paragraph 14 requires that all the subsidiaries of a qualifying company must be qualifying subsidiaries. "Subsidiary" is defined as a company controlled by the qualifying company or by the qualifying company and any person connected with it. For this purpose, section 416(2) to (6) of the Taxes Act 1988 applies to determine whether a company is controlled.

 

23. Paragraph 15 sets out the conditions a company (the "subsidiary") must meet to be a qualifying subsidiary of another company (the "company"). The company or another of its subsidiaries must:

• own at least 75% of the issued share capital and voting power of its subsidiaries, and its subsidiaries must own at least 75% of any subsidiaries that they have;

• be entitled to receive at least 75% of the assets of the subsidiary on a winding up or in any other circumstances in which the assets of the subsidiary are available for distribution to shareholders

• be beneficially entitled to at least 75% of the profits of the subsidiary available for distribution.

In addition:

• no other person must have control over the company within section 840 of the Taxes Act 1988, and

• no arrangements are in place which would cause them not to be met.

1. The subsidiary can continue to qualify where it is being wound up or arrangements exist for its disposal by the company or another of its subsidiaries that controls it, provided that the other conditions are met and the winding up is being carried out for commercial reasons.

 

2. Paragraph 16 requires that the value of the company’s gross assets does not exceed £15 million. Where the company is a parent company, the value is the consolidated assets of the group. This is the aggregate value of the gross assets of the group, disregarding any that are rights against, or shares or securities in, other group companies.

3. Paragraph 17 requires that the company must, throughout the qualification period relating to the shares, meet requirements relating to its trading activities. A single company must, disregarding any incidental purposes, exist wholly for the purpose of carrying on one or more qualifying trades, and be either carrying on or preparing to carry on a qualifying trade. The holding or managing of property used by the company for one or more of its qualifying trades is disregarded for this purpose.

4. In the case of a parent company, the business of the group must not consist substantially of carrying on non-qualifying activities. At least one company in the group must, disregarding any incidental purposes, exist wholly for the purpose of carrying on one or more qualifying trades, and be either carrying on or preparing to carry on a qualifying trade. The business of the group is the activities of the companies in a group taken together.

5. In the case of companies preparing to carry on a trade, the company must begin to carry on the trade within two years after the issue of the relevant shares.

6. In determining whether the business of a group consists in carrying on non-qualifying activities, activities of companies within a group can be disregarded where they consist of

• holding shares in or securities of, or making loans to, another group company;

• holding and managing property used by a group company for one or more qualifying trades carried on by a group company;

• incidental activities of a company which would otherwise meet the trading activities requirement for a single company.

1. "Non-qualifying activities" means excluded activities, other than

• the letting of ships in the circumstances set out in paragraph 21 or the receipt of royalties or licence fees as set out in paragraph 22,

• activities carried on otherwise than in the course of a trade.

.

1. "Incidental purposes" for this paragraph means purposes having no significant effect on the extent of the company’s activities. "Incidental activities" means activities carried on in pursuance of incidental purposes.

 

2. Paragraph 18 provides that a trade is a qualifying trade if it:

• is carried on wholly or mainly in the United Kingdom;

• is conducted on a commercial basis with a view to making profits, and

• does not substantially consist of carrying on excluded activities.

1. Carrying on research and development from which a connected qualifying trade will be derived, or will benefit, is treated as carrying on a qualifying trade. Preparing to carry on research and development does not count as preparing to carry on a qualifying trade.

2. A "connected qualifying trade" for this purpose is a qualifying trade carried on by the company carrying out the research and development or by another company in the same group.

 

3. Paragraph 19 lists the following as excluded activities:

• dealing in land, commodities or futures in shares, securities or other financial instruments.

• dealing in goods except in the course of an ordinary trade of wholesale or retail distribution.

• banking, insurance, money-lending, debt-factoring, hire-purchase, financing or other financial activities.

• leasing (including letting ships on charter or other assets on hire), or receiving royalties or license fees.

• providing legal or accountancy services.

• property development.

• farming or market gardening.

• holding, managing or occupying woodlands, any other forestry activities or timber production.

• operating or managing hotels or other comparable establishments, or managing property used for these purposes.

• operating or managing nursing or residential care homes, or managing property used for these purposes.

This paragraph is supplemented by paragraphs 20 to 26.

 

1. Paragraph 20 supplements the provision in paragraph 19 on wholesale and retail distribution. It defines a trade of wholesale distribution as one in which goods are offered for sale to persons for resale by them, and retail trade as one in which goods are offered for sale and sold to members of the general public.

2. It provides that a trade is not a trade of wholesale or retail distribution if it involves dealing in goods that are collected or held as an investment, or if the goods dealt in are held for longer than would reasonably be expected.

3. Features indicating that a trade carried on by a company is an ordinary trade of wholesale or retail distribution are:

• goods are bought in quantities larger than those in which they are sold;

• goods are bought and sold in different markets;

• staff are employed and expenses, other than the cost of the goods and remuneration to persons connected with the company, are incurred.

1. Features indicating that the trade is not an ordinary trade of wholesale or retail distribution are:

• purchases or sales are made from or to persons connected with the company;

• purchases are matched with forward sales, or vice versa;

• goods are held for longer than would be normal for goods of that kind;

• the trade is carried on at a place not commonly used for wholesale or retail trade;

• the company does not take physical possession of the goods.

 

1. Paragraph 21 supplements the provision in paragraph 19 on leasing of ships other than oil rigs or pleasure craft.

2. It provides that letting ships on charter is a qualifying trade carried on by the company where:

• the ships let on charter are owned by the company;

• all the ships owned by the company are registered in the United Kingdom;

• the company is solely responsible for arranging the marketing of the services of its ships;

• other conditions are met for every letting of a ship on charter.

1. The conditions which must be met are that:

• the letting is for no longer than 12 months and can only be extended beyond 12 months at the option of the charterer;

• there is no provision during the letting for the grant of a new letting ending more than 12 months after the provision is made, except at the option of the charterer;

• the letting is by way of a bargain made at arm’s length, except where it is between a company and a qualifying subsidiary of that company, or between two qualifying subsidiaries of the company carrying on the trade;

• the company is responsible for taking management decisions in relation to the ship and meeting expenses other than those directly relating to the use of the ship, and there are no arrangements for another person to assume these responsibilities.

1. Where any of the conditions are not met, the trade will not be a qualifying trade unless the lettings which do not qualify, together with any other activities which do not qualify, are not a substantial part of the trade. "Oil rig" and "pleasure craft" are defined for the purposes of this paragraph.

 

2. Paragraph 22 supplements the provision in paragraph 19 on the receipt of royalties and licence fees.

3. It provides that a trade can be a qualifying trade if it consists substantially of receiving royalties and licence fees attributable to the exploitation of relevant intangible assets. An intangible asset is a "relevant intangible asset" where all or a majority of the value of it has been created:

• by the company carrying on the trade, or

• by a company which was either the parent company of the company carrying on the trade or a qualifying subsidiary of that parent company, during the time the assets were created.

1. For this paragraph an "intangible asset" is as defined for accounting practice in relation to the accounts of companies incorporated in the United Kingdom. References to the creation of intangible assets by a company are to their creation in circumstances in which the company owns the right to exploit the assets.

2. Where the relevant asset is intellectual property, the creation of an asset must be in circumstances in which the company, either alone or jointly with others has the right to exploit it. Intellectual property means:

• any patent, trade mark, registered design, copyright, design right, performer’s right or plant breeders right;

• any similar rights under the laws of a country outside the UK.

 

1. Paragraph 23 supplements the provision in paragraph 19 on property development.

2. It defines "property development" for this purpose as the development of land by a company which has, or has had, an interest in the land, with the object of realising a gain from its disposal when it is developed. "Interest in land" means any interests in or rights over land, or any right to obtain an interest or right from another which is conditional on the other’s ability to grant it. It does not include a creditor’s interest whose debt is secured by way of mortgage or a charge of any kind over land. For land in Scotland it does not include the interest of a creditor in a charge or security of any kind over land.

 

3. Paragraph 24 supplements the provision in paragraph 19 on hotels and comparable establishments.

4. It defines "comparable establishment" as a guest house, hostel or other establishment for the provision of overnight accommodation. It provides that activities will not be excluded because they consist of operating or managing a hotel or comparable establishment unless the company has an interest in, or occupies, the hotel or establishment.

 

5. Paragraph 25 supplements the provision in paragraph 19 on nursing homes and residential care homes.

6. It defines "nursing home" as an establishment for the provision of nursing care for the sick, injured or infirm, or for women who are pregnant or who have given birth to children.

7. It defines "residential care home" as an establishment for providing residential accommodation, board and care for persons needing this because of old age, mental or physical disability, dependence on alcohol or drugs past illness, or mental disorder.

8. It provides that the activities of a person will not be excluded because they consist of operating or managing nursing homes or residential care homes unless the person has an interest in, or occupies, the home.

 

9. Paragraph 26 provides that the provision of services or facilities for a business carried on by another person is an excluded activity if:

• that business consists substantially of excluded activities, and

• a controlling interest in the business is held by a person who also has a controlling interest in the business carried on by the company providing the services or facilities.

1. Where a company carries on the business of excluded activities, a person has a controlling interest in it if he:

• controls the company within the meaning of section 416(2) to (6) of the Taxes Act 1988;

• is a director of a close company and either owns more than 30% of the ordinary share capital of the company or is able to control more than 30% of the share capital;

• owns at least one half of the business by reference to the tests of ownership set out in section 344(2) of the Taxes Act 1988.

1. Where the business of excluded activities is not carried on by a company, a person has a controlling interest if he is entitled to not less than half of the assets used for, or half the income arising from, the business.

2. For the purposes of this paragraph any rights or powers of an associate of a person is attributed to the person, and "business" includes any trade, profession or vocation.

 

3. Part IV of the Schedule contains the requirements which must be met for an employee to be an eligible employee.

 

4. Paragraph 27 provides that for an employee to be eligible he must meet the requirements set out in the rest of this part regarding employment (paragraph 28), commitment of working time (paragraph 29) and no material interest (paragraph 30).

 

5. Paragraph 28 states that an employee is an eligible employee in relation to a company only if he works for that company or one of its qualifying subsidiaries.

 

6. Paragraph 29 sets out the requirement as to the commitment of working time and states that an employee is only an eligible employee if his committed time amounts to at least 25 hours a week, or, if less, 75% of his working time.

7. "Committed time" is defined as time an employee is required to spend on the business of the relevant company or its group. This includes time which the employee would have been required to spend but for injury, ill-health, disability, pregnancy, childbirth, maternity or paternity leave or parental leave, reasonable holiday entitlement, or not being required to work during a period of notice of termination of employment.

8. An employee is considered as in "relevant employment" if he is employed by the relevant company or by any company in its group. "Working time" is defined as time spent on remunerative work as an employee or self-employed person or time that would have been so spent except for injury, ill-health, disability, pregnancy, childbirth, maternity or paternity leave or parental leave, reasonable holiday entitlement, or not being required to work during a period of notice of termination of employment.

9. "Remunerative work" is defined as work from which income received is chargeable under Case I of Schedule E, or work undertaken with a view to profits which are or would be chargeable to tax under Case I or II of Schedule D. It also includes work which would have been so taxable if the employee had been resident and ordinarily resident in the United Kingdom.

 

10. Paragraph 30 provides that an individual is not an eligible employee in relation to a company if he has a material interest in that company or any company in its group.

11. An individual is taken to have a material interest in a company if he or together with one or more of his associates, or any of his associates either alone or with each other, has a material interest in the company. For this purpose, no account is taken of shares that an individual may acquire under a qualifying option. Once those shares have been acquired, however, they are taken into account.

12. This paragraph is supplemented by paragraphs 31 to 33 regarding the meaning of "material interest" and paragraph 34, read together with paragraphs 35 to 36, regarding the meaning of "associate."

 

13. Paragraph 31 defines "material interest" for the purposes of paragraph 30 as meaning:

• beneficial ownership of, or the ability to control directly or indirectly, more than 30% of the company’s ordinary share capital, or

• where the company is a close company, possession or entitlement to acquire such rights such that more that 30% of the company’s assets that would then be available for distribution to the participators, were the company to be wound up.

1. "Participator" is defined as having the meaning given by section 417(1) of the Taxes Act 1988.

2. This paragraph is supplemented by paragraph 32 (options etc.) and paragraph 33 (shares held by trustees of approved profit-sharing schemes).

 

3. Paragraph 32 sets out that for the purposes of paragraph 31 a right to acquire shares is treated as a right to control them.

4. In order to calculate whether an individual’s share holding exceeds 30% of the company’s ordinary share capital the number of unissued shares which he holds under option is added to the share capital. This is only the case, however, if the shares acquired by exercising the option were previously unissued, and the company is bound contractually to issue them when the option is exercised.

5. References to shares attributed to an individual are to the shares which are taken into account in the beneficial ownership test in paragraph 31 in determining whether their number exceeds a particular percentage of the company’s ordinary share capital.

 

6. Paragraph 33 provides for the interest of the trustees in any shares held under a profit-sharing scheme approved under Schedule 9 to the Taxes Act 1988, or any employee share ownership scheme approved under Schedule 8 to this Act, to be disregarded for the material interest test. This applies only where the shares have not yet been appropriated to, or acquired on behalf of, an individual. It also provides for any rights exercisable by the trustees by virtue of any an interest to be disregarded.

 

7. Paragraph 34 defines "associate" in relation to an individual as being:

• any relative or partner of that individual, or

• the trustee(s) of any settlement of which the individual or a relative (living or dead) is or was a settlor.

1. Where that individual has an interest in any shares or obligations of the company which is subject to any trust, or are part of the estate of a deceased person, "associate" also includes the trustee(s) of the settlement, or the personal representatives of the deceased.

2. "Relative" is defined as a husband or wife, parent or remoter forebear, child or remoter issue.

3. "Settlor" and "settlement" are defined as having the meaning given in Chapter 1A of Part XV of the Taxes Act 1988 (section 660G (1) and (2)).

 

4. Paragraph 35 determines whether the trustees of an employee benefit trust are associated with an individual who is interested as a beneficiary in shares or obligations of the company.

5. Trustees of the employee benefit trust are not regarded as associates of the individual, providing neither he nor any of his associates, acting together or alone, have owned or been able to control (since 14 March 1989) more than 30% of the company’s ordinary share capital.

6. "Employee benefit trust" in the paragraph has the same meaning as found in paragraph 7 Schedule 8 of the Taxes Act 1988,

 

7. Paragraph 36 determines whether trustees of a discretionary trust in which an individual ("the beneficiary") has an interest are to be treated as his associates, where the property subject to the trust has at any time consisted of or included shares or obligations of the company.

8. If the beneficiary has ceased to be eligible to benefit from the discretionary trust due to an irrevocable disclaimer or relief executed by him, or an irrevocable power exercised by the trustees, he is not regarded to have been interested in the shares or obligations of the company for this reason alone. This is only the case provided that no associate has been interested in the shares or obligations held by the trust since the beneficiary ceased to be eligible to benefit, and in if the period of 12 months before he ceased to be eligible, neither he nor any associate actually received any benefit from the trust.

9. "Associate" is defined in relation to an individual as being any relative or partner of that individual or the trustee(s) of any settlement of which the individual or a relative (living or dead) is or was a settlor.

 

10. Part V of the Schedule deals with the terms of the option and the types of shares which may be used.

 

11. Paragraph 37 sets out the requirements which are to be met for an option to be a qualifying option. These are:

• the type of shares that may be acquired

• when the option is capable of being exercised

• the terms being agreed in writing

• the non-assignability of rights

 

1. Paragraph 38 specifies that the shares that may be acquired under an option must form part of the ordinary share capital of the relevant company, and must be fully paid up and not redeemable. Shares are not considered to be fully paid up if there is an undertaking to pay cash to the relevant company at a later date. Redeemable shares are defined as including shares that may become redeemable at a future date.

 

2. Paragraph 39 states that the option must be capable of being exercised within a period of 10 years, beginning from the date of grant. Where exercise of the option depends on the fulfilment of conditions, the option is taken to satisfy this paragraph if it is possible to fulfil the conditions within that 10 year period.

 

3. Paragraph 40 specifies that the option must take the form of a written agreement between the person granting the option and the employee. This agreement must state:

• the date on which the option is granted

• that the option is granted in accordance with this Schedule

• the number, or maximum number, of shares that may be acquired

• the price (if any) payable by the employee to acquire them or the method by which that price is to be determined

• when and how the option may be exercised.

• the amount of the discount, or

• the amount by which the market value of the shares at the time the option is exercised exceeds the acquisition cost.

1. The amount of discount is the excess of the acquisition cost over the amount by which the market value of the shares at the time the option was granted, or in the case of a replacement option at the time the original option was granted.

2. Where the market value of the shares at the time of exercise does not exceed the acquisition cost there is no charge on the option exercise under section 135 of the Taxes Act 1988. This paragraph is subject to paragraph 53(effect of disqualifying event).

 

3. Paragraph 46 applies if an option is granted to acquire shares at a nil cost. In such a case the amount of gain chargeable under section 135 of the Taxes Act 1988 is the market value of the shares at the time the option was granted, or in the case of a replacement option at the time the original option was granted, or if lower, at the time the option is exercised. This paragraph is subject to paragraph 53, which deals with the effect of disqualifying events.

 

4. Paragraph 47 sets out the disqualifying events in relation to a qualifying option which are:

• the relevant company coming under the control of another company, or another company together with persons connected with that company;

• the relevant company ceasing to meet the trading activities requirement;

• the eligible employee ceasing to meet, in relation to the relevant company, the employment requirement in paragraph 28 or the working time requirement in paragraph 29;

• any variation of the terms of the option where the effect of this is to increase the market value of the shares under option, or that the requirements of this Schedule would no longer be met;

• any alteration to the share capital of the relevant company within paragraph 49 without the prior approval of the Inland Revenue;

• a conversion of shares to which an option relates except where the conversion falls within paragraph 50;

• the grant to the employee of a relevant CSOP option if, immediately after grant, the total value of the employee’s unexercised employee options is more than £100,000;

• the relevant company ceasing to carry on preparations to carry on a qualifying trade, or the period of two years ending without the relevant company or, in the case of a parent, any group company beginning to carry on that qualifying trade. This applies only where the relevant company qualified only because of preparations to carry on a qualifying trade;

• the employee’s working time amounting to less than 25 hours a week, or, if less, 75% of his working time in any tax year.

This paragraph is supplemented by paragraphs 48 to 52.

 

111. Paragraph 48 applies to disregard as a disqualifying event an event within paragraph 47 (loss of independence) in relation to an old option where a replacement option (as defined in paragraph 61) has been granted. This applies when the event has occurred in the period beginning at the same time as the period within which the replacement option had to be granted and ending with the release of the rights under the old option.

 

112. Paragraph 49 applies where an alteration of the share capital of the relevant company affects (or would otherwise affect) the value of the shares which are the subject of the qualifying option and the alteration consists of the creation, variation or removal of a right relating to shares in the relevant company, or the imposition, variation or removal of a restriction in respect of those shares. References to restrictions or rights include those implied or conferred by any contract, arrangement or any other way.

113. Approval of an alteration by the Inland Revenue will not be withheld under paragraph 47 unless the Inland Revenue considers that the alteration increases the market value of the shares which are the subject of the qualifying option or that the requirements of the Schedule would no longer be met in relation to the option. The employer company may appeal against a decision of the Inland Revenue to withhold their approval.

114. Notice of appeal must be given to the Inland Revenue within 30 days after notice of the decision was given to the company. Such an appeal lies to the General Commissioners or if the company elects, to the Special Commissioners (in accordance with section 46(1) of the Taxes Management Act 1970).

 

115. Paragraph 50 sets out the circumstances in which a conversion of shares is not a disqualifying event. That is where the conversion is of one (original) class into shares of one other (new) class only and all of the shares of the original class are converted into shares of the new class and one of the following conditions is fulfilled:

• immediately before conversion the majority of the relevant company’s shares of the original class are held otherwise than by or for the benefit of directors, employees or an associated company of the relevant company or directors or employees of such an associated company, or

• immediately before the conversion the relevant company is employee-controlled by virtue of holdings of shares of the original class.

116. The definitions of "director", "employee", associated company" and "employee-controlled" have the meanings given in section 140D of the Taxes Act 1988.

 

117. Paragraph 51 defines the meaning of "CSOP option", "relevant" CSOP option and "employee option" for the purposes of paragraph 47. "CSOP option" has the meaning given in paragraph 10.

118. A "relevant" CSOP option is defined as a CSOP option granted to the employee by reason of his employment with the employer company or where that company is a group, any group member.

119. An "employee option" is defined as the qualifying option, another qualifying option granted by reason of an employee’s employment with the employer company or where that company is a group, any group member, or a relevant CSOP option.

 

120. Paragraph 10 (determination of value of shares) applies to paragraph 47 as it applies for paragraph 10.

 

121. Paragraph 52 defines an employee’s relevant working time for the purposes of paragraph 47 as the time an employee actually spends as an employee in relevant employment on the business of the relevant company, or on the business of the group. The method of determining the time at which the disqualifying event is taken to have occurred is as follows.

122. For each month, calculate whether over the tax year to date the employee’s relevant working time amounts to less than 25 hours a week or, if less, 75% of his working time. Where it does not the event is taken as occurring at the end of the previous calendar month or the end of the previous tax year where calculation is done for April.

123. In the case of an employee who begins or ceases relevant employment during the tax year references in this paragraph and in paragraph 47 are taken to be references to the part of the tax year in which he is in relevant employment. Where the disqualifying event occurs before the option grant, the option is treated as never having qualified.

124. Expressions used in paragraph 47 or this paragraph have the same meaning as the definitions of those expressions given in paragraph 29.

 

125. Paragraph 53 sets out the effect of a disqualifying event occurring in relation to a qualifying option for the purposes of section 135 Taxes Act 1988.

126. Where the disqualifying event occurs before exercise of the option and the option is not exercised within 40 days of that event, the amount of the gain chargeable under section 135 is, in the case of an option to which paragraph 44 applies, taken as the excess of the market value of the shares on exercise over their market value immediately before the disqualifying event. Where paragraphs 45 or 46 apply, the amount of the gain for Section 135 purposes is increased by this excess.

 

127. Paragraph 54 disapplies section 162(1) of the Taxes Act 1988, as it applies in relation to an employee chargeable under Case I of schedule E, in relation to the acquisition of shares by the exercise of a qualifying option. This does not affect any charge under section 162(6) of the Taxes Act 1988.

 

128. Paragraph 55 states that nothing in this Part of this Schedule affects any charge to tax under

• section 135 of the Taxes Act 1988 in respect of the release of rights conferred by a qualifying option

• section 78 or 80 of the Finance Act 1988 in respect of rights acquired under a qualifying option or

• section 140A or section 140D of the Taxes Act 1988 in respect of shares acquired under a qualifying option.

116. The amount of relief under this Schedule shall be treated as a deductible amount under section 140A and S140D where the amount of relief is defined as the difference between the amount chargeable under section 135 and the amount that would have been chargeable but for this Schedule.

 

117. Part VII of this Schedule deals with the capital gains tax treatment of qualifying shares.

 

118. Paragraph 56 defines "qualifying shares" as shares acquired by the exercise of a qualifying option. Qualifying shares include shares referred to as "replacement shares" which are treated as the same asset as a holding of qualifying shares under section 127 of the Taxation of Chargeable Gains Act 1992, and which meet the requirements of paragraph 38.

119. If a disqualifying event occurs, shares acquired by exercise of an option (original or replacement) are only qualifying shares if the option is exercised within 40 days of that event. "Original option" is defined where there has been at least one replacement as the option (or first of them) that was replaced.

 

120. Paragraph 57 states that qualifying shares are treated as if they had been acquired when the original option was granted, for the purposes of computing taper relief on a disposal of qualifying shares.

 

121. Paragraph 58 disapplies sections 127 to 130 of the Taxation of Chargeable Gains Act 1992 in respect of a holding where an individual holds qualifying shares and there is a reorganisation affecting that holding by virtue of section 126(2)(a) of that Act.

 

122. Part VIII deals with company reorganisations.

 

123. Paragraph 59 defines a "company reorganisation" to mean where a company ("the acquiring company"):

• obtains control of a company whose shares are subject to a qualifying option as a result of making a general offer to acquire either the whole of the issued share capital of that company or all the shares in the company which are of the same class as those under option (subparagraph 59(2)(a)) or,

• obtains control of such a company in pursuance of a compromise of arrangement sanctioned by the court under section 425 of the Companies Act 1985 or Article 418 of the Companies(Northern Ireland)Order 1986 (subparagraph 59(2)(b)) or,

• becomes bound or entitled under sections 428 to 430 of that Act or Articles 421 to 423 of that Order to acquire shares of the same class as shares that are subject to a qualifying option that has yet to be exercised (subparagraph 59(2)(c)) or,

• obtains all the shares of a company whose shares are subject to such a qualifying option as a result of a qualifying exchange of shares as defined in paragraph 60.

"Control" has the meaning given by section 840 of the Taxes Act 1988.

 

116. Paragraph 60 states that there is a "qualifying exchange of shares" if arrangements are made in accordance with which a ("new") company obtains all the shares in a ("old") company and the following conditions of this paragraph are met:

• the consideration for the shares in the old company consists wholly of the issue of shares in the new company;

• the new shares are issued when the new shares and subscriber shares are the only issued shares in the new company;

• the consideration for new shares of each description consists wholly of old shares of the corresponding description;

• new shares of each description are issued to the holders of old shares of the corresponding description, in proportion to their holdings; and

• the exchange of shares is not treated as involving a disposal of the old shares, or an acquisition of the new shares, by virtue of section 127 of the Taxation of Chargeable Gains Act 1992 as applied by section 135(3) of that Act.

116. Old shares and new shares are taken to be of a corresponding description if, were they shares in the same company, they would be of the same class and carry the same rights. References to "shares" include securities except in the expression "subscriber shares".

 

117. Paragraph 61 sets out the circumstances in which the new option shall be treated for the purposes of this Schedule as a "replacement option". These are where the holder of a qualifying option releases his rights to that option ("the old option") in consideration of the grant of equivalent rights ("the new option") over shares in the acquiring company and the requirements of paragraphs 59 and 60 are met.

118. References to a qualifying option include a replacement option and a replacement option is treated as if it had been granted on the date on which the old option was granted.

 

119. Paragraph 62 specifies the period within which the replacement option must be granted. In order to qualify as a replacement option the new option must be granted:

• if the reorganisation falls under paragraph 59(2)(a), the period of six months beginning with the time when the person making the offer obtains control of the company and any condition subject to which the offer is made is satisfied;

• if the reorganisation falls under paragraph 59(2)(b) or (d), the period of six months beginning with the time when the acquiring company obtains control of the company whose shares are subject to the old option;

• if the reorganisation falls under paragraph 59(2)(c), the period during which the acquiring company remains bound or entitled as mentioned in that paragraph.

 

116. Paragraph 63 sets out the qualifying requirements for a replacement option. These are that:

• the option is granted to the holder of the old option by reason of his employment with the acquiring company or the parent or another group company;

• at the time of the release of rights under the old option the requirements of paragraph 9 (purpose of granting the option), and paragraph 11 (number of employees who may hold qualifying options) are met in relation to the new option;

• at that time the acquiring company meets the independence and the trading activities requirement;

• at that time the individual to whom the new option is granted is an eligible employee in relation to the acquiring company;

• at that time the requirements of Part V are met in relation to the new option;

• the total market value of the old option shares immediately before the release is equal to the total market value immediately after grant of the new option shares, and

• the total amount payable by the employee for the shares under the new option is equal to the amount that would have been payable for shares under the old option.

 

116. Part IX of the Schedule contains supplementary provisions.

 

117. Paragraph 64 sets out the power of the Inland Revenue to require any person to provide them with any information they consider necessary for the performance of their functions under this Schedule, provided the person can reasonably obtain this information. The Inland Revenue may specify a time limit for this information to be provided, which cannot be less than three months. This power applies, in particular, to information which will enable the Revenue to decide whether the option is a qualifying option, and also to determine the liability to tax, including capital gains tax, of a qualifying option holder.

118. This paragraph inserts the words "paragraph 64 of Schedule 14 to the Finance Act 2000" into the first column of the table in section 98 of the Taxes Management Act 1970, which deals with penalties in connection with returns, etc.

 

146. Paragraph 65 states that any company whose shares are the subject of a qualifying option during a year must submit an annual return to the Inland Revenue. The return must contain any information required by the Inland Revenue, and must be made within 30 days of the end of the tax year to which it relates.

147. This paragraph inserts the words "paragraph 65 of Schedule 14 to the Finance Act 2000" into the second column of the table in section 98 of the Taxes Management Act 1970, which deals with penalties in connection with returns, etc.

 

148. Paragraph 66 states that the term "market value" of shares has the same meaning as that given in section 272 of the Taxation of Chargeable Gains Act 1992. This is, however, subject to the rules in paragraph 10 which deals with the determination of the market value of shares subject to conditions or forfeiture. The Inland Revenue and the employer company may agree to determine the market value on any date by reference to such date or dates, or to an average of the values on a number of dates, as may be provided in the agreement

 

149. Paragraph 67 states that if the market value of shares is not agreed between the employer company and the Inland Revenue or referred to the Commissioners under this paragraph, it will be determined by the Inland Revenue.

150. The employer company may appeal against any determination and notice of appeal must be given to the Inland Revenue by the employer company within 30 days of receiving the notice of determination. The employer company may, at any time before they receive the notice, require the question of valuation to be referred to the Commissioners.

151. Any reference must be determined by the Commissioners in the same way as an appeal. An appeal will be heard by the General Commissioners, or if the company elects (in accordance with section 46(1) Taxes Management Act 1970)., by the Special Commissioners.

 

152. Paragraph 68 states that powers conferred upon the "Inland Revenue" in this Schedule may be exercised by any officer of the Board.

 

153. Paragraph 69 gives power to amend by Treasury order paragraphs 17to 26, which deal with the trading activities requirement and related provisions and to substitute different sums of money to those specified in paragraph 10 relating to the maximum entitlement of an employee, and to paragraph 16 relating to the gross assets requirement.

 

154. Paragraph 70 states that a person is not taken as having exceeded the time limits specified in this Schedule if he had a reasonable excuse for doing so, and if the excuse ceases, he did what was required without unreasonable delay after the excuse ceased. In such a case any further time limit referring to the time when something should have been done will be taken to refer to the time when it was done.

 

155. Paragraph 71 defines the terms "company", "group", "group company", "parent company", "option", "ordinary share capital", "research and development", "shares", "single company" and "tax year". Section 839 of the Taxes Act 1988, which deals with connected persons, applies for the purposes of this Schedule.

 

156. Paragraph 72 contains an index to the definitions of the terms "company", "company reorganisation", "connected person", "disqualifying event", "eligible employee", "employer company", "excluded activities", "gross assets requirement", "group and group company", "the independence requirement", "the Inland Revenue", "market value", "old option", "option", "ordinary share capital", "original option", "parent company", "qualifying company", "qualifying option", "qualifying shares", "qualifying subsidiary", "qualifying trade", "replacement option", "research and development", "shares", "single company", "tax year" and "trading activities requirement".

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157 One of the main constraints on growth for a small ambitious company is the difficulty of recruiting and retaining the key people they need to help their business succeed and grow. This has been highlighted in a number of studies published over the past few years, including the Bank of England report on the financing of technology based small firms of October 1996 and the CBI Tech Stars report of February 1997. These findings were reinforced in July 1998 by the report of the Government’s own study group under the chairmanship of Sir Peter Williams. All these groups thought that targeted tax-advantaged share incentives would encourage high calibre people to move from safe jobs in mature companies to join smaller, more risky ventures.

158 Enterprise Management Incentives have been introduced to help small, higher risk companies recruit and retain skilled employees by offering them tax-advantaged share options. The relief is designed to allow companies to tailor options to suit their business needs. Growth in the value of the shares over the option period is tax-relieved, as long as the company and the individual continue to meet the conditions for the relief.

159 In order to target relief on small higher risk companies, Clause 61 and Schedule 14 follows rules which are similar to those for other reliefs for investors in such companies — Enterprise Investment Relief, Venture Capital Trusts and the Corporate Venturing Scheme.

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