The current Department of Finance review of the KEEP provides a welcome opportunity to reinvigorate a scheme which has not delivered as intended for Irish SMEs. A more flexible scheme is needed to help level the playing field for smaller domestic businesses struggling to attract and retain key workers and who cannot match the salaries paid by larger employers, says Thalia O’Toole, Director and Head of Global Mobility with KPMG.
How KEEP Works
KEEP was introduced in 2018 to facilitate the use of share-based remuneration by unquoted SME companies to attract key employees. Gains arising to employees on the exercise of KEEP share options should be liable to Capital Gains Tax (currently 33%) on disposal of the shares, instead of a liability to income tax, USC and PRSI of up to 52% upfront on the exercise of the option to buy shares in an employer company. The incentive is currently available for qualifying share options granted between 1 January 2018 and 31 December 2023.
Thalia O’Toole says, “many SMEs cannot afford to pay the same salaries and benefits offered by large companies and this puts SMEs at a disadvantage in the competition for skilled workers. KEEP has the potential to give SMEs a means of attracting employees by giving them a tax efficient way of buying into the employer company. When an employee has a financial reward linked to the success of the company, it’s in his/her interest to work to grow the business and stay with the company for the medium to long term.”
KEEP Uptake Short of Budgeted Cost
KEEP was expected to cost €10 million per annum when it was introduced. However, the cost to the Exchequer of KEEP for 2019 was €78,000, €186,000 for 2020 and €600,000 for 2021. Thalia O’Toole says, “the low uptake of this tax incentive points to the fact that the rules and conditions underpinning the scheme are too complex and do not correlate to the commercial reality of how SMEs operate.”
Barriers Facing SMEs in Implementing KEEP
KEEP options must be granted at not less than the market value at the date of grant. Formal valuation can be a costly exercise for SMEs and valuation errors jeopardise KEEP tax relief for employees. Measures which reduce the risks of losing KEEP relief such as providing safe harbour around valuation need consideration.
2. Lack of Certainty on CGT Treatment
SMEs as small unquoted companies generally do not have a ready market for their shares when the employee wishes to sell. The normal practice for unquoted companies is to buy back its shares from an employee, but in doing so, tax avoidance provisions may mean an income tax liability rather than the expected CGT liability applies unless certain conditions are met. The tax incentive should be reformed to provide clarity on this fundamental issue.
3. Qualifying Corporate Structures
The current definitions of a qualifying corporate structure are just too rigid and do not reflect what happens in practice for most SMEs. For example, it is very common for holding companies in SME groups to carry on a trade but this is not permitted under current rules. The rules also do not cater for SMEs whose corporate structure includes shareholdings in companies other than subsidiaries.
4. Award Limitations
There are currently limitations in place around annual and lifetime share values that can be delivered under KEEP. Not all group employees may be able to participate as this depends upon the employing company and Non-Executive Directors who provide critical advice to SMEs are generally precluded.
Recommended Focus of Reforms
O’Toole says, “reforms should focus on providing greater flexibility on the corporate structures that can qualify as well as extending the relief to Non-Executive Directors and other group employees not currently eligible to participate. Improvements in the overall level of awards that can be made and enhancements to tax relief should also be considered. Measures to address significant administrative issues such as share valuation and share buy-backs by an SME, which can fundamentally impact the availability of the tax relief, are critical.”
SME Sectors Needs Delivery of Promised Enhancements
Budget 2020 announced amendments to improve KEEP but these measures are subject to EU State-Aid approval and to date, that approval has not materialised.
Thalia O’Toole says, “Finance Act 2019 included measures which would have allowed more companies that operate through a group structure to qualify for KEEP. Relief would also have been extended to accommodate part-time and family-friendly working arrangements for employees. Lack of enactment has been disappointing for the sector and certainly acted as a barrier to uptake. The measures however were not perfect and even with enactment, further amendments to KEEP are needed to address remaining concerns.”
Source: KPMG Ireland