2. EU-ESOP | Notion

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<aside> Pillar 2. EU-ESOP (European Union Employee Share Option Pool)

This section provides an introduction to the EU-ESOP, an EU-wide primary employee share option scheme, and recommendations for the approach to the key components of the scheme based on research on existing best practices in the EU.

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‣ Current Dilemma

The EU-ESOP addresses the challenges modern companies face in attracting and retaining top talent by offering a competitive, standardized employee share option scheme across the EU. It allows businesses to overcome inconsistencies between national regimes, simplifies cross-border operations, and provides employees with clear advantages when participating in the startup ecosystem.

This unified approach ensures fairness, reduces administrative complexity, and enhances the ability of the European companies and market to compete globally for skilled workers.

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EU-ESOP

Will be an EU-backed employee share option scheme designed to help smaller, high-growth companies attract and retain talent;
Will be subject to the future EU Regulation regarding the 28th Regime, which will outline the rules to be followed in order to grant such options, as well as the terms set out in the contractual agreement between the company and the employee;
Will offer significant advantages to employees when they acquire share options in early-stage companies through the scheme;
Does not impact the sovereign right of Member States to choose their own taxation rates, nor does it impact any already existing domestic ESOP regimes available to European businesses.

Key Characteristics:

The following outlines key recommendations for each component/characteristic of the scheme, which are essential to establish an effective, growth-focused EU-ESOP drawing largely from already existing best practices within the EU. They address the recognition of the type of benefit received, timing of taxation, employee and company eligibility, shareholder rights, and other crucial aspects for a balanced ESOP. For a comprehensive analysis of the current practices within the EU, please refer to Appendix IV and a more detailed comparative data across EU jurisdictions in Appendix V.

Component	Recommendation	Rationale/Examples
Recognition as capital gains	Profit received by employees via the sale of EU ESOP shares will be recognised as a capital gain (and thus be taxed at a capital gains rate - whatever that rate is in each Member State)	Empowers European startups to compete for the best talent globally during early stage company building and motivates employees to engage in equity participation. Example: France’s BSPCE scheme. This does not impact Member State competency and their sovereign right to choose rates of taxation, instead recognises that profit received from the sale of EU ESOPs should be seen as a capital gain, not as income.
Timing of Tax	Employees will only be faced with a tax event at the point of sale. This event will also be able to be delayed further in situations such as a restructuring, exchange of shares, contributions.	Encourages employees to retain ownership longer, aligning interests with company growth. Examples: Latvia and Portugal avoid immediate tax burdens. Employees receive no capital gain at any point prior to point of sale. As long as the proposal recognises that the only benefit the employees receive through the EU ESOP is the capital gain at point of sale, it becomes clear that there should be no tax event prior to that.
Holding Terms and Conditions for Early Exercise	EU-ESOP will require a minimum holding period of 1-3 years before beneficial exercise (where holding period is not met due to specific factors such as an acquisition, undue termination or death, the beneficial treatment will remain).	Balances retention and flexibility. Example: Estonia’s 3-year holding period for favorable tax treatment encourages long-term commitment.
Company Size and Eligibility Limits	Best case: EU-ESOP will be open to all companies incorporated under the 28th regime.

Mean case: EU-ESOP will have a focus on early stage startups and Small Medium Enterprises (the “SMEs”). This could be defined based on specific gross asset, revenue or employee headcount thresholds. If this approach is followed, we would recommend assessing the need for additional employee ownership schemes for companies that surpass the thresholds set under the EU-ESOP. | Supports talent acquisition and retention for early-stage businesses throughout their growth journey. Example: UK and Ireland models support a broader range of businesses, not just micro-companies. | | Employee Eligibility | EU-ESOP will be available for all employees and key contractors, excluding peripheral consultants. | Ensures key contributors participate, motivating the workforce without diluting the program. Example: Ireland's inclusive approach for employees and key contractors. | | Shareholder Rights upon Exercise of Options | EU-ESOP options will convert to non-voting shares upon exercise of options. | Preserves governance control enabling quick decision making process for the company while employees share in company growth. Example: France’s BSPCE program maintains control for founders and primary investors. | | Dividend Rights upon exercise | Employees will receive dividends on non-voting shares, aligned with market conditions and company profitability. | Fosters a sense of ownership. Example: France’s approach ensures employees share in profits without diluting control. |

Conclusion

The EU-ESOP

will be designed around the best and most optimal employee incentives practices already established across the EU. The focus should be on creating a scheme that is both attractive and competitive, aimed at attracting and retaining top talent;
will be subscribed for directly though EU-Inc by any eligible person;
will benefit from a standardised European equivalent to the U.S. 409A valuation method under the 28th Regime. This will be adopted to ensure tax compliance and enhance the competitiveness of European startups. The 409A method offers a reliable, market-driven approach to valuing private company shares, crucial for accurately determining the value of employee share options and equity awards. By using this "Safe Harbour" method, startups can avoid penalties for undervaluation and build employee confidence in their share options, making employee share option plans more effective in fostering long-term commitment and innovation;
May need to be complemented by additional schemes to support companies in later stages of growth if EU-ESOP has a focus on early-stage companies (mean case approach). In either case, the aim is to empower companies to attract talent during their most capital-constrained phases and at each stage of the company’s growth stage.

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📌 Example

Imagine a promising tech startup, "InnovateTech," incorporated as an EU-Inc entity in Berlin. They've just secured seed funding and are ready to expand their development team. To attract top talent, InnovateTech decided to implement the EU-ESOP scheme.

Anna, a talented software engineer from Amsterdam, the Netherlands, is excited to join InnovateTech. She's impressed by their innovative project and the opportunity to be part of a growing company. During her job offer discussions, InnovateTech presents her with an EU-ESOP grant alongside her salary package.

Here’s how the EU-ESOP grant would work for Anna:

Grant: InnovateTech grants Anna options to purchase 2,000 shares of the company at a predetermined price, called the "exercise price" or "strike price." This price is determined based on a Safe Harbour valuation of the company.

Vesting Period: Anna's options are subject to a vesting schedule, typically over four years. This means she earns the right to exercise a portion of her options each year she remains with the company. For instance, 25% of her options could vest each year.

Tax: Under the proposed EU-ESOP rules, Anna wouldn't face any tax liability at the time of grant or exercise. She would only be taxed when she eventually sells her shares, and this profit would be treated as a capital gain. Without these rules, Anna would face dry taxation on a benefit that she may never receive. This approach therefore defers her tax liability until she realizes a profit and taxes said profit at a capital gains rate.

Exercise: Once her options vest, Anna can choose to exercise them, meaning she can buy the shares at the predetermined exercise price. If InnovateTech is successful and the share price increases, Anna will profit from the difference between the exercise price and the market price when she sells her shares.

Shareholder Rights: Upon exercising her options, Anna receives non-voting shares. This structure protects the founders' and primary investors' control over the company's strategic direction.

Dividend Rights: Even though Anna holds non-voting shares, she would still be entitled to receive dividends. This allows her to participate in the company's profits and further incentivizes her to contribute to its growth.

The EU-ESOP grant helps align Anna's interests with the success of InnovateTech. The potential for future financial gain motivates her to work hard and contribute to the company's growth. It also encourages her to stay with InnovateTech, reducing employee turnover.

For InnovateTech, the EU-ESOP scheme is a powerful tool for attracting and retaining talent without a significant upfront financial burden. It offers a competitive advantage in the war for talent, particularly in the dynamic tech industry.

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Next: 3. Taxation

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