Disguised remuneration and share schemes: drawing the line

Disguised remuneration is a topic that often surfaces when companies introduce or update their share-based reward structures. Many organisations encounter it not because they are pursuing aggressive tax planning, but because the rules are broad and can be triggered without realising. 

Understanding how these rules work and how they apply to equity arrangements helps companies design and implement effective incentives while staying compliant. 

What disguised remuneration means 

Disguised remuneration is a term used by HMRC to describe arrangements that provide employees or directors with rewards, loans or other benefits in a way that seeks to avoid income tax and national insurance.

The focus is on substance over form. If an individual receives value because of their work, HMRC expects it to be taxed as employment income, regardless of how it is structured.

HMRC’s definition 

HMRC considers an arrangement to be disguised remuneration if:

• An employee or director receives value in connection with their employment.

• The value is delivered through an arrangement that seeks to avoid PAYE and national insurance.

• The structure attempts to convert earnings into something taxed more lightly or not taxed at all.

The rules sit mainly within Part 7A ITEPA 2003 and are intentionally broad. HMRC’s own guidance emphasises that the rules intend to stop rewards being routed through third parties or artificial structures to avoid income tax.

How disguised remuneration operates

Many of the original cases that led to the rules involved non-equity arrangements. Common examples include:

Third-party arrangements

Where value is provided to an employee by someone other than the employer, such as:

• Trusts, including Employee Benefit Trusts
• Employer-financed retirement benefit schemes (EFRBS)
• Offshore or intermediary vehicles

These were often used to provide benefits that looked like loans or capital rather than earnings.

Loan-based arrangements

A classic hallmark of disguised remuneration is a loan that is unlikely to ever be repaid, for example:

• Large loans from an Employee Benefit Trust (EBT)
• Repeated rolling loans used instead of salary
• Loans intended to convert income into non-taxable advances

The loan charge legislation was introduced specifically to address this type of arrangement.

Payments that mimic earnings

Even when structured creatively, if payments are guaranteed, low risk or linked directly to performance or service, HMRC generally treats them as employment income.

How disguised remuneration can appear in share schemes

Share schemes are a common trigger point because some companies unwittingly implement them without fully understanding of how the tax rules apply. Below are some common scenarios where disguised remuneration risk can arise.

1. Undervalued shares or artificially low acquisition prices

If individuals acquire shares at a discount to their true unrestricted market value (UMV), the discount is treated as earnings. 

If the company claims that shares are worth very little when commercial reality suggests otherwise, HMRC may see this as disguised remuneration. 

This can also happen when a company uses nominal valuations to avoid tax at the point of purchase.

2. Growth shares with unrealistic hurdles or valuation assumptions

Growth share classes can be tax-efficient when designed correctly, but they must be commercially grounded and properly valued. 

If hurdle rates are set so high or so low that they do not reflect genuine economic risk, HMRC may argue that the structure primarily exists to reduce employment tax.

3. Restricted securities with artificial restrictions

Restrictions that exist solely to reduce the taxable value of an award can attract scrutiny. 

HMRC expects restrictions to be commercially meaningful. If a restriction is added purely for tax benefit, the arrangement risks being treated as disguised remuneration.

4. Share schemes that mimic bonuses

If a share plan behaves in substance like a cash bonus, for example, with guaranteed buybacks, guaranteed exit payments or short-term vesting with minimal risk, HMRC may reclassify the value as earnings. 

Companies must demonstrate that shares confer genuine equity risk and upside.

5. Third-party arrangements or trusts

Some legacy or complex structures route shares or loan arrangements through trusts or third parties. 

HMRC views these as high risk. Even if not intentionally avoidance-driven, they can fall within the disguised remuneration rules.

Consequences for companies and individuals

Disguised remuneration comes with substantial financial and reputational consequences. Understanding these risks helps businesses avoid costly mistakes.

1. Significant tax liabilities

If HMRC decides an arrangement is disguised remuneration, it can levy income tax, national insurance and employer national insurance on the full value transferred. This can also apply retrospectively and may include interest and penalties.

2. Company liability 

In many cases, the employer is responsible for operating PAYE. If HMRC concludes that PAYE should have been applied, the company can be required to settle all amounts. This includes the employee income tax that should have been withheld.

3. Penalties for inaccuracies or careless behaviour

If HMRC considers that the company failed to take reasonable care, penalties can be applied. Larger companies are expected to have governance processes in place, including independent valuations and appropriate documentation.

4. Impact on corporate transactions

Unresolved equity and tax issues can create problems during investment rounds, due diligence or acquisitions.

Buyers and investors often ask for confirmation that no disguised remuneration risks exist. Any uncertainties can delay deals or reduce valuation.

5. Reputational impact and governance concerns

Tax governance is a key part of corporate responsibility. Issues related to disguised remuneration can undermine trust with investors, regulators and employees.

Indicators that a company may be at risk

Some signs that a share scheme or equity arrangement may be drifting toward disguised remuneration include:

• Share values that look too low compared to company performance.
• Changes to share classes that are not commercially driven.
  
• Equity awards structured to deliver guaranteed value.
  
• A lack of independent valuation or unclear valuation methodology.
  
• Absence of documentation supporting the commercial rationale for share classes.
  
• Employees receiving value that has little true equity risk.
  

The “little true equity risk” element means: 

• The payment is structured in a way that the employee effectively has full use and enjoyment of the funds or assets.
  

• The "loans" often have terms that mean they are never expected to be repaid, are interest-free, or are repaid in a way that is highly artificial.
  

• Unlike genuine investments subject to market fluctuations, the individual receives a predictable value with minimal actual risk of loss, effectively a form of guaranteed income. 
  

Companies do not need to be intentionally avoiding tax to end up caught by these rules. Honest misunderstandings or poorly designed schemes are often the root cause.

How companies can protect themselves

The good news is that disguised remuneration risks are manageable with good governance and proper structuring.

1. Use robust and independent valuations

A defensible valuation is one of the strongest protections. It should follow a recognised methodology, address unrestricted market value and reflect commercial reality.

2. Ensure schemes have genuine commercial purpose

Share classes and hurdles should be driven by strategic goals, not tax aims. Documenting the commercial rationale helps evidence compliance.

3. Align scheme structure with legislation

Approved schemes such as Enterprise Management Incentives (EMIs) provide a clear statutory framework. Even non-tax advantaged schemes can be low risk when structured in line with the employment-related securities rules.

4. Review legacy schemes

Older arrangements, especially those involving trusts or loans, may need modernisation. A regular review reduces long-term risk.

5. Communicate clearly and transparently

Individuals benefiting from equity awards should understand the tax treatment. Transparent communication reduces misunderstanding and future disputes.

Final thoughts

Disguised remuneration is not always the result of deliberate tax avoidance. It is often the unintended outcome of complex or rushed reward structures.

For companies offering equity-based incentives, particularly growing or larger organisations, it is essential to ensure that share schemes reflect their true commercial intent.

With proper design, robust valuation and clear documentation, companies can reward teams effectively while remaining compliant and avoiding HMRC challenge.

See how Vestd makes running a compliant share scheme much simpler. Book a free demo today. 

Our team, content and app can help you make informed decisions. However, any guidance and support should not be considered as 'legal or financial advice.'