Employee shares and interests. A benefit that doesn’t have to have a bitter taste.

Recently, we have been experiencing a growing demand from both start-ups and established companies to reward employees with shares in the company. A benefit in the form of company shares or the right (option) to receive them not only helps companies to attract the best people on the market, but also to motivate these people to loyalty and long-term work. It can be said that employee shares are becoming standard in Slovak companies as well. It is not uncommon for investors entering growing companies to demand that a portion of a company’s shares be set aside for its key employees in order to retain valuable human know-how and competitive advantage.

Slovak law currently regulates the issue of employee shares only in the case of a simple joint stock company. However, even this is only a framework, which gives companies a relatively high degree of flexibility in setting up their employee share plans. Although the commercial law does not expressly provide for the issuance of shares to employees in the case of limited liability companies, the issuance of employee shares is not only legally possible but also common in Slovakia. In our experience, statistically, employee shares are even more prevalent in LLCs. The issuance of company shares is also not limited to company employees. Many growing startups, especially in the IT sector, operate “on invoice” and can also motivate their key suppliers with shares in the company and its profits.

Slovak companies have basically three options (although there are different functional derivatives) as to what form of shareholding to offer to their key employees and suppliers. The first one is a direct transfer of the business share or shares of the company. In practice, the firm will thus transfer a portion of the shares in the firm to an employee or supplier for a nominal contribution. However, in our practice, we see this option as rather an exception.

The second option is to grant a right (option) to acquire the company’s shares in the future, at a predetermined, usually below-market price. In this case, the employee or contractor can decide whether to exercise this right in the future and ask the company to transfer an agreed number of shares.

A third option is to issue shadow shares or shares in the company. Unlike the first two options, in this case the employee or contractor does not become a registered shareholder or partner of the company. By virtue of a contract with the company, the employee or contractor receives a “shadow” share in the company’s business, which grants him or her the same de facto range of property rights and benefits as standard shareholders and partners. In some respects, shadow shares resemble a silent partnership, which may have tax benefits. However, the terms of their issue are considerably more flexible. In our experience, shadow shares are the most common form of employee remuneration in Slovak companies today, especially for small start-ups. In practice, the acquisition of employee shares, options or shadow shares is usually linked to the fulfilment of agreed conditions. Most often, these include staying in the company for an agreed period of time, or achieving the planned revenues, or employees completing specific tasks.

Regardless of which of the three options a company chooses, it is crucial that not only a lawyer but also a tax advisor is already sitting in the boardroom when planning the issuance of employee stock. Ideally in one person. Employee stock issuance, especially with the third option, need not be particularly complicated. Issuing them, however, brings with it a number of tax and levy burdens on the part of the employee or contractor, as well as the company, which can add a rather bitter flavour to the benefit.

In more than one case that landed on our office desk, the owners did not give much thought to the tax burden of employee stock. Or they left that thinking to the standard tax adviser who had not thought about the alternative options the law offers that can lead to avoiding high taxes and levies. That is to say, even a legally sophisticated employee stock issuance plan is a ticking time bomb without tax analysis. Generally, a tax advisor is naturally unable to legally evaluate whether proposed alternative solutions are legally sound. The logic behind this is logical. After all, the tax advisor may not be familiar with other legal options for setting up employee stock and option plans, and even if he or she is familiar with them, he or she cannot by default evaluate whether they are legitimate or illegitimate tax optimizations. And the lawyer, in turn, is naturally unfamiliar with the tax aspects of such alternative arrangements.

Here at Highgate Group, we have not only lawyers with extensive experience in employee share legal setup under one roof, but also tax lawyers, tax advisor and accountants with whom we can tailor the proposed structure so that it does not cause excessive tax and levy burdens for companies and employees. Therefore, we can cover the issues related to the issuance of employee shares not only legally, but also tax and accounting under one roof, which is more convenient for the client than dealing with these two complements through two different addresses (lawyer and tax advisor) in the best case, or not at all in the worst case. We are therefore able to analyse and create legal and tax complex structures that ensure our clients’ employee actions remain truly beneficial.