Introduction of the Key Employee Engagement Programme (“KEEP”) share option scheme for SMEs

Share-based remuneration can be a cornerstone of effective employee engagement in enhancing financial performance of a company. The KEEP Scheme is a new measure aimed at enhancing the attractiveness on an award of share options to employees working within certain areas of the SME sector in Ireland. 

One of the central provisions of the KEEP Scheme legislation is that income tax, USC and PRSI should no longer apply on any gain arising on the exercise of a “qualifying share option”, rather CGT arises on the ultimate sale of the shares following exercise.  However, as explained in further detail below, there are distinct rules in relation to the valuation of the option price under the KEEP Scheme.

Income Tax on Share Options
Traditionally, on the exercise of a ‘short’ share option, (generally an option capable of being exercised no later than seven years following grant), a liability to income tax, USC and PRSI arises for the employee at the date of exercise.  The tax charge would generally be calculated on the difference between the price paid (the “option price”) and the market value of the shares at the date of exercise.

The amount of the gain subject to income tax on the exercise of the option is added to the base cost of the shares in the event of a future disposal of same. The effect of this section is that the base cost of the shares in respect of a future disposal would essentially be the market value at date of exercise of those shares.

CGT on KEEP Share Options
Under the KEEP Scheme, any gain on the date of exercise of a “qualifying share option” (being the difference between the option price and the market value of the shares on the date of exercise) would not be subject to income tax. Essentially, the scheme operates such that any tax liability arising on exercise can be deferred until the shares are actually disposed of and then provides that capital gains tax will apply to any gains arising. 

It should be noted, however, that the option price cannot be less than the market value of the same class of shares at the date of grant of the share options. Further, the option price (as opposed to the market value of the shares at date of exercise) will be the base cost of the shares in respect of a subsequent disposal.

In order to be eligible for the KEEP scheme in the first instance, a “qualifying company” must be considered an SME carrying on a “qualifying trade” and its shares must be unquoted (other than on the Enterprise Securities Market, or a similar or corresponding stock exchange established in an EEA or DTA State).  An SME is broadly defined as a company employing fewer than 250 people and having an annual turnover not exceeding €50 million, and/or an annual balance sheet total not exceeding €43 million. The company must be considered an SME at date of grant of the qualifying share options only.

The definition of “qualifying trade” means trading activities other than “excluded activities”.  For this purpose, excluded activities include:
  • Adventures of concerns in the nature of trade;
  • Dealing in commodities or futures in shares, securities or other financial assets;
  • Professional services (including doctors, lawyers, accountants, auditors, etc.);
  • Financial activities;
  • Building and construction;
  • Dealing in or developing land;
  • Forestry; and,
  • Activities in the coal, steel and shipbuilding sectors.
It should be noted that shares in a company existing wholly for the purposes of holding the entire share capital of a “qualifying company” will also be eligible for the scheme. Further, the “qualifying company” must be incorporated in Ireland or the EEA and be tax resident in Ireland, or be tax resident within the EEA and carrying on business in Ireland through a branch or agency.

A “qualifying individual” is a person who is a full-time director/employee of the qualifying company at the date of grant of the “qualifying share option”. An individual will cease to qualify where, together with connected persons; the individual holds more than 15% of the ordinary share capital of the company.

One point to note in respect of the above ownership thresholds is that senior management in private Irish SMEs can often hold in excess of 15% of the companies they run, or aspire to do so. Therefore, the KEEP scheme in its current standing may not be an option for many in senior positions of Irish SMEs. This should be borne in mind when advising clients of the new scheme.

A “qualifying share option” is:
  • An option to acquire shares in the company at a price not less than the market value of the same class of shares at the date of grant;
  • An option which is held for a minimum of 12 months before exercise, subject to limited exceptions; and
  • Only exercisable within 10 years of the date of grant.
Other points to note in respect of the KEEP Scheme are as follows:
  • The shares must be fully paid-up on exercise;
  • The shares must not carry a preferential right to dividends or assets of the company on winding up or a preferential right in the case of redemption;
  • The shares will not be eligible for relief under EIIS or Seed Capital;
  • There must be a written contract in place in relation to the share options, and the exercise of same;
  • The market value of the shares, in respect of which options have been granted to any one employee or director, does not exceed:
    • €100,000 in a year of assessment;
    • €250,000 in any three consecutive years; or,
    • 50% of the individuals’ annual emoluments in the year of assessment in which the share option is granted.
  • The total market value of the issued but unexercised qualifying share options at the date of a grant cannot exceed €3 million.
  • The company is required to make a formal declaration to Revenue on the grant, exercise or release of share options by 31 March in the year following the event.

The KEEP Scheme is a welcome development in the area of share-based remuneration in the Irish private sector. Careful consideration will need to be given to the practical application; the qualifying conditions are stringent, and the monetary benefits as compared to traditional short options may be minimal, particularly where companies have a market value at date of grant.  In this regard, we are considering means by which share entitlements, perhaps options to acquire flowering or growth shares, can ensure the scheme has broader application, albeit on a company by company basis.

EU State Aid approval was granted in relation to the KEEP scheme on 19 December 2017 and Minister Donohoe signed a commencement order on 14 January 2018 designating 1 January 2018 as the commencement date for the KEEP Scheme.

This article was originally produced for publication with Bloomsbury Professional. The full version of this article can be viewed on Bloomsbury Professional’s Irish Tax Services: