A phantom share scheme promises employees a future cash bonus measured by the value, or the growth in value, of notional shares. No shares or options are ever issued, so HMRC treats the arrangement as a way of measuring a cash bonus: there is no tax when the award is made, and the payout is earnings under section 62 ITEPA 2003, taxed through PAYE with Class 1 National Insurance when it is received.

How does a phantom share scheme work?

HMRC’s Employment Income Manual at EIM01600 describes the usual pattern. The employee is given an award of a set number of units, each representing a share in the employer. At that point they receive no money or money’s worth, only the prospect of a payment later. Typically, if they are still employed when the scheme matures, they receive cash equal to the value of the phantom shares at the time of payment. The aim is retention and motivation without handing over equity.

Many schemes copy the language of real option plans. HMRC’s guidance at ERSM110020 notes that phantom plans often refer to the grant and exercise of options, measure the cash by the increase in value of notional tracker shares between a start date and a claim date, and attach performance conditions. HMRC gives two common commercial reasons: the owners are happy to share the economic value of the business but not the equity itself, or the employer is a division of a larger company and can measure the value of its own part of the business even though it has no shares of its own.

Stock appreciation rights, common in American groups, work the same way. ERSM20195 describes them as a right to the cash equivalent of the increase in value of a set number of shares over a set period.

Why is there no tax when the award is granted?

Because nothing of value passes. HMRC’s view at ERSM20196 is that phantom share plans are simply arrangements for paying cash bonuses measured in a certain way and cannot be securities or securities options. ERSM110020 draws the consequences: a phantom option is not an option and is not a security within section 420(1) ITEPA 2003, so there is no charge on grant under Part 7, no money’s worth charge under section 62, and the securities option rules in Chapter 5 of Part 7 do not apply.

This is also why a phantom scheme cannot benefit from the tax advantaged regimes. EMI and the Company Share Option Plan are schemes for options over real shares. Under a phantom plan, the whole payout is employment income.

When is the payout taxed?

The cash is taxed as earnings under section 62 in the year it is received (EIM01600). Section 18 ITEPA 2003 sets the time of receipt for money earnings as the earliest of:

  1. the time the payment is made;
  2. the time the employee becomes entitled to the payment; and
  3. for a director, the earliest of the time sums are credited in the company’s accounts or records, the end of the period if the amount for that period is fixed by then, or the time the amount is determined if that is later.

So the scheme rules decide the tax year. If an award vests and the employee becomes entitled to a fixed sum in March, it is taxed in that tax year even if the company pays in May. For directors, a board minute fixing the payout can bring the charge forward before any cash moves.

How do PAYE and National Insurance apply?

The payout is cash pay and goes through payroll like any other bonus. CWG2 for 2026 to 2027 tells employers to treat extra payments such as bonuses as part of total pay at the time they are paid, no matter when they were earned, for National Insurance purposes. Our page on how bonuses are taxed explains why a large one off payment can look over taxed on the payslip and how cumulative PAYE corrects it.

Employer National Insurance is a real cost of these plans. The facility at ERSM170750, under which an employee can agree or jointly elect to bear the employer’s contributions, covers share option gains and charges on restricted and convertible securities. A phantom award is none of those, so the employer’s contributions stay with the employer.

What if the company can settle in shares instead?

Some plans let the employer choose to deliver shares rather than cash, for example where the tracker price has not moved enough. ERSM110020 says that because the employee has no right to receive securities, this is still not a securities option. Cash is taxed as a bonus, and if the employer chooses to deliver shares, their money’s worth is taxed under section 62. ERSM20195 makes the same point for stock appreciation rights settled in shares: the value is taxable when the shares are acquired, even if they are not sold.

Where shares are delivered, the employer then has to decide whether they are readily convertible assets. If they are, PAYE and Class 1 National Insurance must be operated on their value even though no cash has been paid.

When does the company get a corporation tax deduction?

In the accounts, FRS 102 treats these plans as cash settled share based payments. Paragraph 26.2 gives share appreciation rights as an example, and paragraph 26.14 requires the liability to be measured at fair value and remeasured at each reporting date and at settlement, with changes in profit or loss. Our page on FRS 102 Section 26 covers the measurement.

For tax, the accrued expense is employees’ remuneration, so section 1288 CTA 2009 applies. If remuneration charged in the accounts for a period is not paid within nine months of the end of that period, the deduction is given only in the period in which it is paid, and never if it is not paid. HMRC’s guidance at BIM47130 says remuneration is paid when it is treated as received for employment income purposes. If the payout is funded through an employee benefit trust, the employee benefit contribution rules decide the timing instead.

What does this look like with numbers?

Illustration only. A company with a 31 December year end grants a manager 10,000 phantom units on 1 January 2024, each tracking an ordinary share valued at £2. After three years, if still employed, the manager is entitled to the growth in value. At 31 December 2026 the share value is agreed at £5, so the manager becomes entitled to £30,000, which is paid in March 2027.

  • No tax arises in 2024 when the units are granted.
  • The full £30,000 is earnings for 2026 to 2027 and goes through the March 2027 payroll with PAYE, employee National Insurance and employer National Insurance.
  • The company accrues the liability in its 2024, 2025 and 2026 accounts. The amount charged in the 2026 accounts is paid within nine months of 31 December 2026, so it is deductible in 2026. The amounts charged in 2024 and 2025 are not paid within nine months of those year ends, so they are deducted in the year ending 31 December 2027, when the cash is paid.

What mistakes come up with phantom schemes?

  • Expecting capital gains treatment because the documents talk about options and shares.
  • Missing the section 18 timing rules, especially for directors, so the payout is reported in the wrong tax year.
  • Claiming a corporation tax deduction for the accrual each year without applying the nine month rule in section 1288.
  • Forgetting that delivering shares instead of cash can trigger PAYE if the shares are readily convertible.
  • Leaving employer National Insurance out of the cost when designing the plan.

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Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 8 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.