HMRC’s new view on corporation tax relief for net settled share awards

HMRC’s previous position on net-settlement

HMRC first published guidance on the corporation tax treatment of net-settled share awards in 2023. In summary, this original guidance said that HMRC would accept general principles corporation tax deductions for the cash cost of net-settling ‘options’ (i.e. awards structured as rights to acquire shares):

• In respect of the part of accounting debits recognised under IFRS 2 or Section 26 of FRS 102 (share-based payments) that corresponds to the cash paid on net-settlement; but
• Only once the award vests, and to the extent that employees are subject to income tax on the cash payments made (but retained by the employer to cover payroll withholding).

This is because specific rules deny a general principles corporation tax deduction in respect of option style awards unless and until the employee is subject to income tax. However, as employers recognise share‑based payment expenses over an award’s vesting period (which is typically three years but may be longer), this can result in general principles corporation tax deductions being lost for earlier accounting periods if the relevant return is out of time to be amended by the vesting date.

Share based awards that are not structured as ‘options’ (i.e. where the employee does not have a ‘right’ to acquire shares because, for example, the employer can settle them in cash at its discretion) were not covered by HMRC’s original net-settlement guidance. However, HMRC accepted that such awards are not subject to the specific rules that govern the timing of general principles corporation tax deductions for options but, instead, are subject to the ‘unpaid remuneration’ rules alone.

The unpaid remuneration rules allow general principles corporation tax deductions for the cash cost of net-settlement which were disallowed in earlier accounting periods to be ‘rolled up’ and taken in full in the accounting period in which vesting occurs (or, in the immediately preceding accounting period to the extent that this ended less than nine months before the vesting date).

Therefore, a key distinction between net-settled ‘option’ and ‘non-option’ style awards under HMRC’s original practice was that a general principles deduction was unlikely to be available for the full accounting cost of cash payments made on the net-settlement of any ‘option’ style awards (unless historical corporation tax returns happen to remain open).

’Legal’ versus ‘non-legal’ option style awards

Broadly, a ‘legal’ option is a right to acquire shares that represents ‘money’s worth’ on the date of grant. In contrast, a ‘non-legal’ option is an option style award that is not ‘money’s worth’ on grant (and so does not meet the requirements to be a ‘legal’ option). Companies may need professional advice to understand and make this distinction.

HMRC’s original published guidance on net-settled options did not differentiate between ‘legal’ and ‘non-legal’ options and so treated all types of net-settled option style awards in the same way.

What’s changed – and why it matters

HMRC’s revised guidance now states that the unpaid remuneration rules allow previously disallowed deductions associated with net-settled ‘non-legal’ options to be ‘rolled up’ and taken in full on vesting – even where the relevant expense was charged in a now closed accounting period. Because the ‘roll up’ is under the unpaid remuneration rules, some accounting expenses may remain in the immediately preceding accounting period to the extent that this ended less than nine months before the vesting date.

This change in HMRC’s stance means employers can claim corporation tax deductions in the accounting period in which vesting occurs (or in the preceding period) for all previously disallowed share-based payment debits relating to the cash cost of net‑settling ‘non-legal’ options, subject to that amount being charged to income tax on the employee.

The corporation tax treatment of ‘non-legal’ options now aligns with the treatment of net-settled awards that are not options (although HMRC guidance is not explicit on the treatment on awards that are not options). The treatment of options that are ‘legal’ options, remains as set out in HMRC’s original published guidance.

What should employers do now?

Employers should consider whether any of their employee share awards are ‘options’ and, if so, whether they are ‘non-legal’ options with potentially larger corporation tax deductions for the cash cost of net-settlement.

Further steps employers should consider include:

• Quantifying the impact of HMRC’s new position on the future corporation tax treatment of unvested ‘non-legal’ option style awards;
• Considering whether corporation tax returns for earlier accounting periods remain in time to be amended to increase previously claimed corporation tax deductions in line with HMRC’s revised guidance and, if not, considering whether a claim for overpayment relief might be appropriate; and
• Confirming the impact on any open enquiries or imminent or ongoing disclosures to HMRC.

How KPMG can help

We have extensive experience helping companies to identify and correct employee share plan corporation tax errors and payroll compliance issues, meet their employment-related securities reporting obligations, and consider employee share plans’ transfer pricing impact. We can also help to differentiate between ‘legal’ and ‘non-legal options’ for the purposes of the new HMRC guidance.

If you’d like to discuss how HMRC’s new guidance could affect your corporation tax position, or any aspect of your employee share plans (including HMRC’s revised approach to reporting net-settled awards), please contact the authors or your usual KPMG in the UK contact. 

For further information please contact:

• Lorna Jordan
• Alison Hughes