Tax-advantaged Company Share Option Plans (CSOP)

Options can be granted over shares with a maximum value per individual of £30,000 as at the date of the grant, increasing to £60,000 from 6 April 2023.

No tax is charged on the grant of the share option and no income tax or National Insurance contributions (NICs) will be charged on any profit made when the option is exercised provided that, in most circumstances, this occurs three or more years after the date of the grant.

When will a CSOP be appropriate?

A CSOP is a discretionary plan, which means that companies can select particular executive directors or employees to benefit, rather than an all-employee plan such as the tax-advantaged share incentive plan (SIP) or Save As You Earn, where all eligible employees and executive directors must be invited to participate. However, a company may operate a CSOP on an all-employee or other broad basis, if desired.

An individual can hold CSOP options over shares with a value of up to £30,000 (increasing to £60,000 from 6 April 2023), based on the market value at the date of the grant. Any options granted above this limit will not benefit from any of the CSOP tax advantages.

Companies which are unable to grant the more generous tax efficient Enterprise Management Incentives (EMI), perhaps because they are too large or do not carry on a "qualifying trade" under the strict legal provisions of EMI, may consider the grant of options under a CSOP as part of an employee's remuneration arrangements.

Which companies can use a CSOP?

To qualify to grant a tax-advantaged option under a CSOP the shares of the company or, in the case of a group plan, its controlling company must either be a listed company or, if unlisted, must be independent and not controlled by another company (other than the corporate trustee of an employee ownership trust). The shares issued under that option must also fulfil certain conditions, including that they must:

• form part of the ordinary share capital of the company;
• be fully paid up and not redeemable.

Who can be granted an option?

The board of directors or, where appropriate, the company's remuneration committee, has discretion to choose which employees or directors can participate in a CSOP. Only executive directors working at least 25 hours a week for the company are eligible – non-executive directors cannot participate. There is no working time requirement for employees who are not directors.

Individuals with a material interest – broadly a 30% interest – in a close company whose shares may be acquired under the CSOP, or which controls that company, or which is a member of a consortium which owns such a controlling company, are also unable to participate. A close company, for the purposes of UK tax law, is broadly speaking a small company with no more than five controlling parties.

Requirements for the options

Share options must be granted with an exercise price which is equal to or exceeds the market value of a share at the grant date. Discounted options cannot be granted under a CSOP. The options, therefore, provide a benefit to employees to the extent that the value of the shares increases between the date of the grant and the date the employee exercises their CSOP option.

When can an option be exercised?

In order to benefit from the advantaged tax treatment offered by a CSOP, the option should not be exercised less than three years from the date of the grant except in certain circumstances set out below. In many cases the company will provide in the CSOP rules that the option can only be exercised three or more years from the grant - although this is not a requirement of the tax legislation.

Additionally, the company may provide that employees can only exercise their CSOP options if specified performance targets are achieved. If performance targets are imposed by the company they should be clearly set out at the date of the grant and communicated to option holders.

Early exercise of a CSOP option (i.e. within three years from the date of the grant) will still benefit from the tax-advantaged status in the following circumstances:

• "good leavers" – disability, injury, retirement or redundancy (if exercised within six months);
• death (if exercised within 12 months);
• certain "company events" - a cash takeover of the company, a court-sanctioned scheme of arrangement, or a shareholder approved reorganisation of a non-UK company's share capital or a minority squeeze out, provided certain conditions are met (if exercised within six months).

Tax treatment

For individuals exercising CSOP options in tax-advantaged circumstances, any increase in the value of the shares between the grant and the exercise of the share option is delivered free of income tax and NICs. If and when the shares are sold by the employee, normal capital gains tax (CGT) rules will apply to the increase in the market value of the shares between the time the share option was granted and when the shares were disposed of.

Where share options are exercised within three years of the date of grant other than in the specified circumstances above, income tax will be due on any increase in value between the market value of the shares at the date they are acquired and the exercise price. This may be collected under Pay As You Earn (PAYE) arrangements if the shares are "readily convertible assets" at the time, in which case NICs (including employer NICs) will also be due.

The company itself is likely to qualify for a corporation tax deduction when the option is exercised by its employees. Tax relief is given as a deduction from company profits of an amount equivalent to the benefit received by the option holder.