Auto-enrolment – The key question for FDs: How to fund it and still contain payroll costs? – Is a Share Incentive Plan a solution?

Mon 25 Jan 2016

Many companies are still finding that funding auto-enrolment is their biggest objective and challenge.

The Funding Problem

It is clear that many FDs are very concerned about how to fund the obligatory contributions. With cash flows under strain it is not enough to know what you need to pay under auto-enrolment there is also a very real need to consider solutions for mitigating payroll expenses to arbitrage and offset the pension costs. Pay and bonus freezes have been deployed by some but inevitably these have an adverse impact on staff engagement, retention and motivation and therefore the short-term saving is often negated by downstream lost productivity.  There is another solution that more and more companies are adopting and we are pleased to bring this to your attention and advise you on how to take this opportunity forward for your business.

A Solution to Consider

Did you know that the payroll savings from a Share Incentive Plan can help mitigate the additional payroll pension costs ahead? Here’s how…

Our experience working with employers is that the additional payroll costs of the new pension requirements is a great concern for FDs. HR and payroll are also feeling the strain in terms of additional administration compliance and wondering if employees will actually appreciate the benefits.

Funding the additional staff pension provisions is very challenging for many businesses and cash-flow impact is a key concern at the forefront of many a FD’s mind. So, as FDs look for cost savings and HR wonder how to manage staff communications and incentivisation and reward we step in with a solution – the Share Incentive Plan!

There can be no denying that cash cost and tax considerations play a part in any staff benefits provision and that if you ask someone what rate of tax they want to pay, in an ideal world, they will answer “None!”. Ask an FD and they’ll answer “None and I want lots of savings and reliefs, and for any cost of provision to be more than offset by the savings obtained”. This holy grail of benefits provision, zero tax charge on acquisition of the benefit by an employee and keeping that tax-free into the future, is achievable under a Share Incentive Plan. High participation rates can also mean savings for the employer company that more than meet the cash-flow, P&L and corporate tax relief objectives concerning the FD and which can, potentially, help plug the funding gap between current and future payroll costs, taking into account the new cash-drain of auto-enrolment contributions.

Below we explain how the SIP works and the savings potential achievable. The larger the employer and the more engaged staff are with the future growth opportunities, the bigger the savings will be.

THE SIP AWARD

Under a SIP (which is an all-employee rather than a discretionary plan) employees may be offered shares in a number of ways. The Company can opt for one or more of a combination of the transfer methods.

Each year, employees can receive up to £3,600 worth of ‘Free’ shares in the Company (increased from £3,000 prior to 6 April 2014). The shares are appropriated to each eligible employee and held on their behalf within a UK statutory employee share ownership (SIP) trust.

Employees can also be offered the opportunity to purchase ‘Partnership Shares’ paid for out of gross or pre-tax income before deduction of tax and NICs, subject to a maximum investment of £1,800 per year (increased from £1,500 prior to 6 April 2014).

If the employees take up the offer to purchase shares, the company may then offer additional free ‘Matching Shares’ to a maximum ratio of 2:1 i.e. a further £3,600 (or £3,000 prior to April 2014) worth of shares per annum.

Finally, employees can receive shares in lieu of cash dividends as ‘Dividend Shares’. Such dividend reinvestment is now completely uncapped following changes introduced in Finance Act 2013.

A grand total of £9,000 worth of shares may therefore now be offered to each employee per tax year.

TAX IMPLICATIONS – GOOD NEWS!

If the shares remain within the trust for 3 years, no income tax or National Insurance Contributions (NICs) for either employer or employee are payable on any gain in value.  However, if the shares remain in trust for 5 years, no income tax or NICs of any description is payable on the value, including the initial value.  As the offer of shares can be made annually, significant amounts of potentially tax-free value can be transferred to employees in this way.

COMPANY ADVANTAGES – MORE GOOD NEWS!

Under the SIP legislation, the company will enjoy Corporation Tax relief when the shares are appropriated to the employees (i.e. when the shares are placed in trust on behalf of the employees).  The employees in turn receive share appropriation certificates.  At this stage, the company will receive the tax advantage on the value of shares passed into the trust.

In respect of the ‘Partnership’ shares, the employees can now elect to save amounts of up to £150 per month or £1,800 per annum from pre-tax salary. No income tax, employer or employee NIC liabilities are charged on these amounts.  The NIC savings to employers can therefore be significant depending on the participation rates. For FD’s looking at “salary sacrifice” arrangements this ticks a lot of boxes. Just imagine – a saving of 13.8% x £1,800 each year for each employee in a large company. Of course not every employee might be minded to accept the Partnership share offer. It is after-all asking them to sacrifice salary and make a discretionary spend from their pay to buy shares in their employer. This is why investing in a thorough employee communications programme is important and to perhaps sweeten the initial Partnership share offers with an additional Matching share or Free share offer. Better communication equals higher take-up and participation and this in turn drives the higher payroll savings…

Through a SIP, employees can enjoy the opportunity to receive significant share incentive arrangements through a combination of tax-efficient transfer methods, but what about after the shares have reached the 5 year maturity date?

SIP MATURITY – YET MORE GOOD NEWS!

Under the terms of a SIP, shares that have been held in the Plan for 5 or more years may be released without any liability to income tax or national insurance contributions. The 5 year point is from the original date of purchase. Therefore, if a Plan participant purchased Partnership Shares on 1st May 2016, these shares will reach the 5 year anniversary on 2nd May 2021 and can then be released.  If an employee purchased shares on a monthly basis, each set of Partnership Shares may be released as and when each 5 year anniversary of the date of purchase is reached.

Once the 5 year anniversary is reached, the income tax and NIC savings that were received when the employee’s original salary deduction was contributed to the Plan, will no longer be subject to claw-back.  Also, under the SIP legislation, for as long as the shares remain in the Plan, the employee will not have to pay any capital gains tax (CGT).

After the 5 year anniversary, the employee also has the option to continue to receive the favourable CGT treatment mentioned above by transferring shares into a Self Invested Personal Pension Plan (SIPP) or a Stocks and Shares ISA (ISA). To take advantage of this option, once shares have been requested to be released from a SIP, they must be transferred into a SIPP or ISA (or new NISA) within 90 days of the date of release.  The transfer of shares from a SIP into a SIPP also attracts income tax relief. This means that it is possible for the shares to be ported into an investment wrapper environment, so that future share growth remains protected from tax levy.

We conclude, as more and more FDs are doing, that a Share Incentive Plan ticks a lot of boxes for tax efficient provision of non-cash benefits to staff with salary sacrifice payroll cost savings thrown in. The costs of engaging Mazars to advise on establishing the plan are tax deductible too!

If you would like to find out more about how a SIP might benefit your company please contact Liz Hunter, Tax Director Share Schemes and Employer Solutions on 020 70634489 or email liz.hunter@mazars.co.uk