What is a section 431 election and why do I need to make one?
Where shares are being transferred or issued to employees or directors, it is common for the individuals concerned to be asked to complete a section 431 election – a reference to the legislation of s431 ITEPA 2003. A brief summary of how an employee is taxed on receiving shares will help to explain the importance of this election.
Employees and directors (whether executive or non-executive) who subscribe for or acquire shares in the company or any member of the group for which they work are within the scope of special tax rules applying to employment-related securities. Broadly, the difference between the value of the shares and the price paid is charged to income tax.
The rules apply to all employees. The rules can also apply to former or prospective employees.
The rules are to prevent employment income being made in the form of shares or securities and avoiding a tax charge under PAYE. It was possible previously to give employees restricted shares whose market value, at the time they were issued, was significantly reduced due to the restrictions on them. The restrictions would then lapse, leaving the employee with a much more valuable asset. Employment-related securities therefore have two values when looking at the tax charge. This advantage has been blocked by imposing further income tax charges when the restrictions are lifted.
Unrestricted market value is the amount the shares would be worth without any restrictions attached to them and assuming they can be sold at will.
If employee pays the unrestricted for the shares at the time of their acquisition or elects for the shares to be taxed as having been at unrestricted value, then none of the growth in value of those shares is taxed as income in future.
Assuming the shares are “readily convertible assets” as defined by tax legislation then the employer will operate PAYE on the amount which includes an NIC charge.
If they are not readily convertible assets, then income tax will be paid via the individual’s personal tax return but NICs will not be payable. You will need to ask your employer whether or not the shares your received are “readily convertible assets”.
The employee can elect by way of a section 431 election jointly with the employer, to be taxed on the full, unrestricted value. The election must be made within 14 days of the share issue and so the deadline is very tight.
Why then would you want to elect to pay income tax now on a higher value? The purpose of the election is to ensure that a smaller amount of income tax is paid now, rather than a larger amount in future. If you have any reservations, this should be discussed with your employer.
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