Welcome to our Employee Incentives Update, we hope you find it useful.  This Update contains a round-up of key developments in remuneration during August 2017.

In summary:

Corporate Governance

• Department of Business, Energy & Industrial Strategy (BEIS) issues response to the Green Paper consultation on corporate governance reform
• Investment Association (IA) claims that shareholders have flexed their muscles during the 2017 AGM season to reduce FTSE pay

Tax and HMRC

• HMRC issues statement in respect of schemes that attempt to re-define loans caught under the disguised remuneration legislation
• HMRC updates its Employment Related Securities Manual on taxation of dividend equivalents under restricted stock units

In full:

Corporate Governance

BEIS issues response to consultation on the Green Paper on corporate governance reform

BEIS' response to the green Paper sets out a package of measures, some of which will, for the first time, impact not only listed companies but also large private companies. This update looks at the pay and employee aspects of the proposed measures.

In respect of pay, the Government intends to:

• Invite the Financial Reporting Council (FRC) to revise the UK Corporate Governance Code to:
  • Be more specific about the steps that premium listed companies should take when they encounter significant shareholder opposition to executive pay policies and awards (and other matters);
  • Give remuneration committees a broader responsibility for overseeing pay and incentives across their company and require them to engage with the wider workforce to explain how executive remuneration aligns with wider company pay policy (using pay ratios to help explain the approach where appropriate); and
  • Extend the recommended minimum vesting and post-vesting holding period for executive share awards from 3 to 5 years to encourage companies to focus on longer-term outcomes in setting pay.
• Introduce secondary legislation to require quoted companies to:
  • Report annually the ratio of CEO pay to the average pay of their UK workforce, along with a narrative explaining changes to that ratio from year to year and setting the ratio in the context of pay and conditions across the wider workforce; and
  • Provide a clearer explanation in remuneration policies of a range of potential outcomes from complex, share-based incentive schemes.
  • Invite the Investment Association to implement a proposal it made in its response to the Green Paper to maintain a public register of listed companies encountering shareholder opposition to pay awards of 20% or more, along with a record of what these companies say they are doing to address shareholder concerns.

These proposals come with a warning that the Government will consider further action at a future point unless there is evidence that companies are taking active and effective steps to respond to significant shareholder concerns about executive pay outcomes.

In respect of an "employee voice", the Government intends to:

• Introduce secondary legislation to require all companies of significant size (private as well as public) to explain how their directors comply with the requirements of section 172 to have regard to employee and other interests (Section 172 of the Companies Act 2006 already requires the directors of a company to have regard to the wider interests including those of the employees in pursuing the success of the company);
• Invite the FRC to consult on the development of a new Code principle establishing the importance of strengthening the voice of employees and other non-shareholder interests at board level as an important component of running a sustainable business. As a part of developing this new principle, the Government will invite the FRC to consider and consult on a specific Code provision requiring premium listed companies to adopt, on a “comply or explain” basis, one of three employee engagement mechanisms: a designated non-executive director; a formal employee advisory council; or a director from the workforce; and
• Encourage industry-led solutions by asking the Institute of Chartered Secretaries and Administrators and the Investment Association to complete their joint guidance on practical ways in which companies can engage with their employees and other stakeholders. The Government will also invite the GC100 group of the largest listed companies (FTSE100 General Counsels) to complete and publish new advice and guidance on the practical interpretation of the directors’ duties in section 172 of the Companies Act 2006.

The report states that these proposals are in line with recommendations made by the House of Commons BEIS Committee and "will drive change in how big businesses engage with their key stakeholders. Putting in place higher expectations for all our largest companies, and in particular for our leading, premium listed companies, should also encourage the development and uptake of good practice in the wider business community".

The current intention is to bring the reforms into effect by June 2018 to apply to company reporting years commencing after that date. A copy of the proposals can be found here.

Investment Association (IA) claims that shareholders have flexed their muscles during the 2017 AGM season to reduce FTSE pay

Following an analysis of voting data for the 2017 AGM season, the IA has claimed that "at a critical time for pay policy renewal, investors are effectively holding FTSE100 and FTSE250 companies and their individual directors to account on executive remuneration".

The IA states that "many FTSE100 companies who saw large shareholder votes against pay in 2016, have on the whole submitted more conservative pay policies in 2017 for their executive teams, which were more in line with shareholder expectations". Rebellions on all remuneration resolutions in the FTSE100 were down from 14 in 2016 to 9 in 2017.

In contrast, FTSE250 companies saw dissent amongst shareholders double from 2016 levels with 29 companies seeing votes with more than 20% dissent, up from 15 in 2016.

The IA claims that "shareholders are also turning up the heat on individual director accountability at this year’s AGMs, with votes cast against individual directors soaring 200%, from 7 directors in 2016 to 21 directors in 2017 seeing 20% or more votes against".

It is also worth noting that six FTSE350 companies withdraw resolutions on executive pay packages ahead of shareholders voting, due to concerns over significant investor rebellion.

Tax and HMRC

HMRC issues statement in respect of schemes that attempt to re-define loans caught under the disguised remuneration legislation

HMRC has issued Spotlight 39 in which it makes it clear that HMRC considers that schemes that claim to avoid the loan charge which will be imposed on any outstanding third party employee loans which were made on or after 6 April 1999 and which are still outstanding as at 5 April 2019, do not work.

HMRC states that it is aware that "scheme users are being told they can sign documents saying that the sums they’ve received from their disguised remuneration scheme under loan agreements are not loans at all. Instead, these sums of money are merely held by them in a ‘fiduciary capacity’ – for example, an individual acts in a fiduciary capacity if they hold money, or assets, for the benefit of someone else, not themselves. It’s wrong to claim that the loan charge won’t apply because the sums received aren’t loans".

In a stark warning, HMRC states that "if you adopt this approach and choose not to reflect the loan charge on your tax return you may face a significant penalty in addition to the tax charge. Deliberately misleading or concealing information from HM Revenue and Customs (HMRC) may result in criminal prosecution".

A copy of Spotlight 39 can be found here.

This Spotlight ties in with recent comments made by HMRC in its Tax Agents Blog where it states that as a result of the Supreme Court decision in the Rangers case (see July Employee Incentives Update), it will be inviting participants of disguised remuneration schemes to register an interest in settling their tax liabilities which arise from the use of these arrangements. The blog goes on to state that "settling will prevent further immediate action by HMRC, as well as reducing interest charges that would otherwise be payable and to giving access to extended payment terms, where these are needed".

A link to the Tax Agents Blog can be found here.

HMRC updates its Employment Related Securities Manual on taxation of dividend equivalents under restricted stock units

HMRC has now updated its Employment Related Securities Manual in respect of the taxation of dividend equivalents under restricted stock unit (RSU) plans to reflect changes that have been in effect since 6 April 2016.

Many RSUs pay out what are often referred to as “dividend equivalents” in either cash or shares and such payments may be rolled up and paid out at the time the RSU vests or paid out on a regular basis, perhaps to match the payment of actual dividends on shares in the company. Such payments will generally be taxed as earnings in the year they are received, unless the entitlement amounts to a right to acquire securities, in which case, from 6 April 2016, the charge has been under Chapter 5 of Part 7.

HMRC states that "the fact that the RSU yields a future income stream to the employee does not of itself mean that money’s worth can be attached to the right to that income stream. In many cases the conditional entitlement to future dividend equivalents will be no more realisable for immediate cash than a promise of future salary, and will not therefore represent money’s worth". Were the right to the income stream to be taxed under the money's worth earnings rules, there would be a tax charge on the acquisition of the right rather than on the realisation of that right.

A copy of the updated guidance can be found here.