Under FRS 105 paragraph 21.2 a micro entity does not account for share options settled in shares until the shares are actually issued. There is no expense when options are granted or while they vest; when an employee exercises, the company simply records the shares issued for the cash received. The reason is that the micro entity regime bans fair value measurement, and fair value is how FRS 102 prices an option.
Tax investigation insurance from £108.75 a year (£9.06 a month).Pays up to £100,000 of your accountant's fees if HMRC opens an enquiry. No excess. Buy online in a few minutes.
What does FRS 105 require when options are granted to staff?
Section 21 of FRS 105 covers share based payment, including transactions settled in shares (equity settled), transactions settled in cash, and arrangements where either side can choose (paragraph 21.1). For the first type, paragraph 21.2 is short: a micro entity shall not account for equity settled share based payment transactions until shares are issued, and then applies Section 17 Liabilities and Equity.
So an EMI, CSOP or unapproved option granted to an employee produces no entry in the accounts on grant, nothing as the employee works through the vesting period, and nothing if the option lapses. The wording is mandatory, so a micro entity cannot choose to book a charge anyway.
Why is there no charge until shares are issued?
Under FRS 102 the cost of an option is the fair value of the services the employee provides, measured by reference to the fair value of the equity instruments granted (paragraph 26.7), and recognised over the vesting period as the services are received (paragraph 26.6). That fair value normally comes from an option pricing model.
The micro entity regime does not allow fair value measurement. Paragraph 15 of the FRS 105 basis for conclusions explains that company law prohibits micro entities from using the alternative accounting rules and fair value rules. Paragraph 19(b) then lists the prohibition of accounting for equity settled share based payments before shares are issued as one of the deliberate simplifications, because of the ban on fair value and the lack of supporting disclosure. The full FRS 102 method is explained in FRS 102 Section 26: share based payment.
Worried about an HMRC check? Tax investigation insurance pays your accountant’s fees if HMRC opens an enquiry or compliance check. Solar Protect cover pays up to £100,000 with no excess. It never pays tax, interest or penalties.
From £108.75 a year (£9.06 a month) for individuals, £117.57 for sole traders and £207.50 for companies and partnerships, including IPT and the £20 admin fee.
See my price in 2 questions or call 01795 841 310.
★★★★★ Rated 4.9 out of 5 on Trustpilot from over 160 reviews
What is recorded when an option is exercised?
Paragraph 17.10 applies the normal rules for issuing shares to shares issued on the exercise of options. Under paragraph 17.8 the shares are measured at the fair value of the cash or other resources received, net of transaction costs, and paragraph 17.9 deducts the transaction costs from equity. Section 610(1) of the Companies Act 2006 requires any premium over nominal value to be transferred to the share premium account.
Nothing is recorded for the gap between the market value of the shares and the exercise price. That gap is the benefit the employee receives, but under FRS 105 it never passes through the profit and loss account.
Worked example
Illustration only. A micro entity grants an employee an option over 10,000 ordinary shares of 1p each at an exercise price of £2 per share. Three years later, when each share is worth £8, the employee exercises and pays £20,000.
| Item | FRS 105 | FRS 102 |
|---|---|---|
| Grant and vesting period | No entries | Expense based on grant date fair value, spread over vesting |
| Exercise: cash | £20,000 | £20,000 |
| Share capital | £100 | £100 |
| Share premium | £19,900 | £19,900 |
| Total charged to profit or loss over the life | Nil | Grant date fair value of the options that vest |
Does the company still get a corporation tax deduction?
Yes, if the conditions are met, and this is easy to miss because there is no matching expense in the accounts. Part 12 of the Corporation Tax Act 2009 gives a statutory deduction when an employee acquires qualifying shares. HMRC’s Business Income Manual at BIM44280 explains that the shares must be fully paid, non redeemable ordinary shares in the employing company or a parent, and not in a company that is an unquoted subsidiary of another unquoted company. The deduction is given for the accounting period in which the employee acquires the shares.
Under BIM44315, for shares that are not restricted or convertible, the deduction is the market value of the shares when acquired less what the employee paid for them and for the option. In the example above that is 10,000 x (£8 less £2), or £60,000. For EMI options, ETASSUM57210 confirms the deduction is the difference between market value at acquisition and the amount the employee pays.
Section 1038 of the Corporation Tax Act 2009 means that, where Part 12 relief is available, no other deduction is allowed for providing the shares except as Part 12 allows. The deduction is a tax computation adjustment, so the micro entity’s accounts show the lower tax charge without any related expense line. For the employee side, see Enterprise Management Incentives, unapproved share options and National Insurance on share options.
What about awards paid in cash, such as phantom shares?
Cash settled awards are treated differently because they create a real obligation to pay. Paragraph 21.3 requires the services received to be recognised with a corresponding liability. If the award vests immediately, the services are presumed received and recognised in full on grant (paragraph 21.4); if it vests only after a period of service, the cost is built up over the vesting period (paragraph 21.5). Paragraph 21.7 measures the liability using the rules for provisions in Section 16, not fair value.
Where there is a choice of settlement, paragraphs 21.9 and 21.10 decide the treatment. If the company has the choice, it uses the paragraph 21.2 approach unless settling in shares has no commercial substance or the company has a past practice or stated policy of paying cash. If the employee has the choice, the award is treated as cash settled unless the cash alternative has no commercial substance, or it is only a net settlement feature to cover tax the company must withhold.
Do options need to be disclosed in the notes?
Share options are not among the notes FRS 105 paragraph 6.2 requires, which are limited to off balance sheet arrangements, employee numbers, advances and guarantees to directors, and financial commitments, guarantees and contingencies. A micro entity may disclose more, but paragraph 1.3 then requires regard to the related requirements of FRS 102 Section 1A. For share based payment, paragraph 1AC.31D of FRS 102 refers small entities to paragraphs 26.18(a), 26.18(b)(i), (vi) and (vii) and 26.23, so a voluntary note should follow that pattern.
What reporting to HMRC still applies?
The accounting treatment does not change the employer’s reporting duties. HMRC guidance says EMI options granted on or after 6 April 2024 must be notified by 6 July following the end of the tax year of grant, and that a return or nil return for each registered employment related securities scheme or arrangement must be filed by 6 July after the tax year end. Background is in employment related securities basics.
What happens if the company moves to FRS 102?
When a former micro entity adopts FRS 102, paragraph 35.10(b) lets it avoid applying Section 26 to equity instruments granted before its date of transition. Options granted after that date are charged over their vesting period in the normal way. More detail is in moving from FRS 105 to FRS 102.
What mistakes come up most often?
- Booking an FRS 102 style charge in micro entity accounts, which paragraph 21.2 does not allow.
- Forgetting to claim the Part 12 deduction in the year of exercise because the accounts contain no expense to prompt it.
- Crediting the whole exercise price to share capital instead of splitting it between nominal value and share premium.
- Ignoring a phantom share or cash bonus scheme linked to share value, which is a liability that must be recognised.
- Missing the 6 July HMRC deadlines on the basis that the accounts show nothing.
Solar Protect provides tax investigation insurance for businesses and fee protection schemes for accountancy practices. Read how our cover works or get a quote.
Related Accountapedia entries
- Group share schemes in subsidiary accounts
- Accounting for EMI options
- Choosing between FRS 105 and FRS 102 Section 1A
- Corporation tax relief for employee share acquisitions
- Why micro entities do not show deferred tax
- Can an LLP use FRS 105 micro entity accounts
- Goodwill in micro entity accounts
- CSOP Share Options Explained
Sources
- Financial Reporting Council: FRS 105 September 2024
- Financial Reporting Council: FRS 102 September 2024 tmKYWO6
- legislation.gov.uk: Act 2006 c. 46, section 610
- GOV.UK: Manual page BIM44280
- GOV.UK: Manual page BIM44315
- GOV.UK: www.gov.uk
- legislation.gov.uk: Act 2009 c. 4, section 1038
- GOV.UK: Tell hmrc about your employment related securities
Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 19 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.