The Pros and Cons of Employee share schemes

The Pro’s and Con’s of Employee Share Schemes


4 min read
Employee share schemes help to attract and retain talent, secure tax concessions and motivate employees. But there are some pitfalls to watch out for.

With a hot job market, a boom in entrepreneurship and start-up growth, plus generous tax concessions on offer, employee share schemes (ESS) have been gaining popularity among innovative Australian businesses.

We’ve found the model to be an effective approach for inspiring and rewarding our people across different BlueRock businesses and for many of our clients, but is it the right option for you and your business? We love to talk about the benefits of employee share schemes , but in this article we’re going to look at the risks too. They tend to rear their head when an employee share scheme is mismanaged or not implemented in an effective way.

What is an Employee Share Scheme?

An employee share scheme involves an employer selling a portion of the company’s ownership, or the right to acquire ownership, to their employees, often at a discount to the current market value, and in many cases for free. Available to all companies, publicly listed or privately owned, employee share schemes are regulated by ASIC and the ATO.

They can add flexibility to salary packages, allowing an employer to offer shares as remuneration for high performance, or giving employees the option to salary sacrifice in exchange for shares. However they’re implemented, employee share schemes are a great way to encourage and motivate staff to go beyond their daily tasks and pursue an active role in building the business. Before we look at some of the risks, you can dive deeper into ESS with our comprehensive guide to employee share schemes .

What are the Risks of Employee Share Schemes?

While there are countless benefits to an effective ESS, there are some pitfalls to watch out for. Perhaps your business wasn’t ready to start giving away equity, or you chose the wrong type of interest to offer under the scheme. Here’s what might happen if an ESS is mismanaged or not implemented in an effective way.

Demotivated People Aren’t Good for Business

One of the main reasons a business would offer shares to its staff is to give them a tangible stake in the company. Their hard work can directly translate to growth in the value of the company’s shares, which is a great motivator. But what if the employee can’t influence the share price, based on their day-to-day role? Motivation can start to wane, and have the opposite of the desired outcome. To avoid this, you need to consider on the individual employee level, who is suitable for participation in your ESS, and who would be more suitable for traditional remuneration plans.

Dilution of Equity Can Cause Tension

When a business introduces an employee share scheme it will inevitably dilute the percentage of ownership for existing shareholders. This can cause resentment and tension among founders, staff or early investors who have been involved in the business since day one, and feel like their sweat equity is being diminished. To manage this risk, it’s important to nail the process and internal communications around the introduction of an ESS.

Sweat Equity Can Mean Tax Owed

When entrepreneurs decide to issue equity as a reward for long-serving or high-performing employers, the business has likely experienced significant growth in value. While offering shares in lieu of a bonus is a great way to reward them without impacting cash flow, it’s important to understand how employee share schemes are taxed . You’re giving away something of value for far less than its market value. The ATO might have a problem with this and may attempt to tax the transaction.

Let’s say you’ve just issued equity to your employee with a market value of $200,000. How did the employee pay for that equity? Well, they didn’t! The ATO can deem that your business actually paid your employee a bonus payment (which, in effect, it did) and therefore tax them on it as if it was a cash bonus.

To mitigate these risks, you’re going to need good tax advice to ensure both the employee and employer are eligible to participate and meet the ongoing requirements of an ATO compliant employee share scheme.

Expectations Can Be Mismanaged

If you’re dangling an ESS or an employee share option plan (ESOP) in front of prospective new hires as a carrot, it’s important to communicate clearly what they’re signing up for. There are some fundamental differences between ESS and ESOP , so it’s important that they understand what you’re offering. If an employee or existing owner doesn’t understand the terms, conditions and implications of the scheme it can put a strain on relationships within a business and lead to poor performance or an early exit.

Considering An Employee Share Scheme For Your Business?

We didn’t write this article to turn you off the idea of implementing an employee share scheme. Far from it! As experts in all things ESS, we’ve seen first-hand how crucial it is to decide on a scheme that is appropriate for the current and future needs of your business and to structure your equity model in a way that allows you to take advantage of the available tax concessions.

For further advice about ESS and ESOP models for your business, please reach out to our accounting advisors who are experienced working with high-growth businesses to help them achieve their goals.

Liability limited by a scheme approved under Professional Standards Legislation. © BlueRock 2023.

Switch region