Employment-Related Securities (ERS): How HMRC’s Anti-Avoidance Rules Work

Why this matters

Share schemes are widely used to remunerate or incentivise directors and employees. There are several tax approved share schemes: 

• Enterprise Management Incentives (EMIs)

• Share Incentive Plans (SIPs)

• Save as You Earn (SAYE)

• Company Share Options Plans (CSOPs)

These share schemes are approved by HMRC and are not widely scrutinised.

However, many directors, founders, and senior employees receive shares or options in their company as part of their reward or investment through non tax advantaged share schemes. While this can be an effective incentive, it’s also one of the most closely scrutinised areas of tax.

HMRC’s Employment-Related Securities (ERS) rules ensure that when a person receives shares because of their employment or office, they are taxed appropriately as remuneration subject to income tax and National Insurance (NICs) rather than capital.

To go further, HMRC also applies anti-avoidance provisions designed to prevent individuals or companies structuring share awards mainly to reduce Income Tax or National Insurance.

Understanding these rules is essential if you issue or receive shares through work or a director of a company.

What are employment related securities?

ERS are shares, options, or other rights to acquire shares that are made available by ‘reason of employment’.

In practice, this means if you are an employee or director and you receive shares from:

• your employer,

• another company in the same group, or

• a company connected to your employer,

then those shares are likely to fall within the ERS regime. This includes any current, future and historical employment and stays within the scope of the legislation for seven years.

Example

Mr Smith is employed by ABC Ltd. As part of his reward package, he is due to receive 100 shares in the company. However, due to his income position, he asks for these shares to be issued instead to Mrs Smith, who is not an employee of ABC Ltd.

Although Mrs Smith receives the shares, her right to do so arises entirely by reason of Mr Smith’s employment. The shares are therefore classed as ERS, and any resulting tax charge falls on Mr Smith.

HMRC also applies a “deeming provision”, which automatically treats any shares or securities made available by an employer or a connected company as being provided by ‘reason of employment’. In other words, the law assumes the award is employment related, and the burden shifts to the taxpayer to demonstrate that it was not connected to their employment.

The only exception to this rule applies where the shares or securities are acquired from an individual, and the transaction takes place in the ordinary course of a domestic or family relationship, for example, a genuine transfer between spouses or family members unconnected to employment.

3. The purpose of the anti-avoidance rules

Historically, some companies structured share arrangements to turn what was effectively employment income into capital gains, taxed at lower rates.

To counter this, HMRC’s anti-avoidance provisions allow them to re-characterise transactions. If one of the main purposes of a share or option arrangement is to avoid income tax or NICs, HMRC can tax the value as employment income, regardless of the structure used.

In short, if an award looks like remuneration, it will be treated as remuneration.

4. Who is most affected

The ERS and anti-avoidance rules can apply to:

• Employees and connected individuals

• Company directors and senior management receiving shares or options.

• Founders or investors who later take on an employment or directorship role, perhaps as a non-executive director role.

• Family-owned businesses transferring shares to family members who work in the company.

5. Common scenarios 

Here are typical situations where HMRC might apply the ERS anti-avoidance provisions:

• Discounted share issues - Employees or directors acquiring shares below market value. The discount is likely to be treated as income.

• Growth or flowering shares - Special share classes that increase in value if certain performance or valuation targets are met. HMRC often considers this employment related.

• Group or connected company awards - Receiving shares from another company within the group (or a connected entity) is still deemed to be “by reason of employment”.

• Alterations to share rights - When rights attached to existing shares are changed, increasing their value, a taxable event can arise.

• Transfers between connected parties - Family or close company transfers can also trigger ERS rules if an employment link exists.

• Restricted securities - Shares or securities who value is restricted by certain conditions, such as forfeiture conditions, transfer limitations etc, are fully within the ERS regime.

6. How HMRC applies the anti-avoidance rules

When reviewing share transactions, HMRC will typically ask:

• Who provided the opportunity? If it’s the employer or a connected person, the ERS deeming rule likely applies.

• Why was it provided? If the share award is linked to services performed or expected, it’s employment related.

• Was there a tax motive? If the structure or timing suggests tax avoidance, HMRC may invoke the anti-avoidance provisions.

• Were the correct filings made? Failure to file ERS returns raises red flags.

• If HMRC decides the ERS rules apply, the tax charge will usually be on market value at acquisition (less any amount paid), taxed as employment income. National Insurance may also be due if the shares are readily convertible.

8. Managing ERS compliance and reducing risk

The key to managing ERS risk is not to avoid the rules but to handle them correctly.

1. Establish a commercial purpose

Ensure the share issue or award has a genuine business or incentive rationale, not purely a tax motive. Document this clearly.

2. Obtain a professional valuation

   Use a credible valuation to support any share issue or option grant. HMRC challenges often start with undervaluation.

3. Complete and file ERS returns

   Every company that issues or transfers employment related securities must file an ERS return by 6 July following the end of the tax year, even if there’s only one transaction.

4. Consider Section 431 elections

   Where restricted shares are issued; a Section 431 election (signed by both employer and employee) can align the tax timing and help preserve capital treatment on future gains.

5. Use approved schemes where possible

   HMRC-approved share plans offer tax advantages and simplify compliance.

6. Keep records and advice

   Maintain documentation on rationale, valuations, board minutes, and legal agreements. This evidence is crucial if HMRC reviews the transaction.

9. Why this matters now

HMRC has become significantly more active in this area, following key court decisions (such as Vermilion Holdings Ltd v HMRC). The department now applies a broad and assertive interpretation of the anti-avoidance rules.

Employment related securities are a valuable tool for motivating and retaining key people, but they must be implemented correctly.

The rules are complex, and HMRC’s approach can be strict, particularly where arrangements appear to deliver value that looks like remuneration.

If you have issued or received shares, are planning a new incentive structure or restructuring your company, it’s worth getting professional tax advice to ensure your arrangements are compliant and defensible.