S431 Election Explained: What UK Founders Must Do When Issuing Shares to Employees

A Section 431 election is a short document signed by both the employer and the employee to elect that shares issued under an employee share scheme are treated as if there were no restrictions for tax purposes. That simple step can save founders and employees substantial tax later on.

This guide cuts through the legal jargon and explains why the election matters, when you need it, how to complete the form, and how it fits into your broader equity strategy. It also answers frequently asked questions and highlights common mistakes.

What Is a Section 431 Election?

When a UK company issues shares to employees or directors, the shares are almost always employment‑related securities. Because private‑company shares are normally subject to restrictions, such as forfeiture on leaving or limits on transfer, their value is artificially reduced.

HMRC distinguishes between the actual market value (AMV), which is the price the shares are worth with restrictions, and the unrestricted market value (UMV), which is what they would be worth if there were no restrictions. A Section 431 election is a joint agreement under Section 431 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA 2003) that allows the employer and employee to treat the shares as if there were no restrictions for tax purposes.

The “restricted securities” problem

Restrictions might sound like a small technicality, but they have real tax consequences. Suppose your company grants an employee shares worth £1 each (AMV). If there were no restrictions, each share would be worth £1.50 (UMV). The employee pays £1 per share. At acquisition, there is no immediate tax charge because the employee paid the full AMV. However, because they did not pay the UMV, one‑third of any future gain (the difference between the UMV and the AMV) could be taxed as income instead of capital.

If the shares later rise to £10 and the restrictions disappear, HMRC will treat one‑third of the £9 gain as taxable employment income. The rest will be subject to capital gains tax. Income tax rates can reach 45% (plus employer and employee National Insurance), whereas capital gains tax is generally lower (currently 18% or 24%, depending on your tax band). So the difference matters.

Section 431 election meaning for founders

By signing a Section 431 election within 14 days, you elect to pay income tax on the difference between the price paid and the UMV at acquisition. In the example above, the employee pays tax on the £0.50 difference per share up front. Once that tax is paid, all future gains are treated as capital gains. This means no income tax is charged when the restrictions lapse or when the shares are sold. The election effectively shifts tax from the future (when the share price may be much higher) to the present (when the value is lower). It also protects employers from employer NICs on later increases in value. However, if the share price falls after acquisition, the employee cannot reclaim the tax paid, so it is important to assess the company’s prospects.

Why does an S431 election matter when you issue shares to employees

Issuing equity to employees is part of many start‑ups’ compensation strategy. Equity motivates your team to think like owners and can help preserve cash. But without careful tax planning, you may inadvertently expose your employees and your company to large income tax and NIC liabilities. A Section 431 election addresses three core issues: timing of tax, rate of tax, and certainty.

What happens if you don't make the election

If you do nothing, the default rules apply. The employee pays income tax at acquisition on any discount between the price paid and the AMV. Later, when the restrictions are lifted or the shares are sold, a further tax charge arises on the proportion of the gain attributable to the original discount between the AMV and UMV.

RSM gives a clear example:

• If the UMV is £10 at sale, income tax is levied on £2 (£10 × 20%) plus the £0.30 initially untaxed, so total taxable income is £2.30 per share.
• The income tax could reach 45% plus NICs, wiping out much of the employee's gain and creating a payroll cost for the company.

Missing the election also complicates transactions:

• Buyers often require evidence of S431 elections from selling employees to ensure there is no hidden PAYE or NIC liability that could attach to the company.
• Without the election, the acquirer may insist on indemnities or reduce the purchase price.
• In practice, professional advisers treat the election as a standard document in any share issuance or option exercise.
• Failing to prepare can derail a deal or trigger unexpected negotiations.

The Income Tax vs Capital Gains Tax difference

Capital gains tax (CGT) rates are currently lower than income tax for most taxpayers. From 6 April 2026, higher‑rate taxpayers pay 24% on capital gains above the basic rate band, while basic‑rate taxpayers pay 18% on gains up to the band and 24% on the remainder. For qualifying disposals under Business Asset Disposal Relief (BADR), the rate is 18% from 6 April 2026 (14% in 2025‑26).

By contrast, Income Tax can be 45% plus 2% National Insurance for employees and 15% employer NICs, together totalling over 60%.

The difference is enormous: paying a bit more tax at acquisition via a Section 431 election can save tens of thousands of pounds when the company exits. That is why founders who believe their share price will grow should almost always make the election. The only real downside is if the shares fall in value; you cannot reclaim the up‑front tax.

When must an S431 election be made?

The election is time‑critical. The employer and employee must sign the election within 14 days of the employee acquiring the shares. There is no power for HMRC to extend this deadline. The HMRC Employment Related Securities manual confirms that elections received after 14 days are ineffective. The acquisition day itself counts as day one. HMRC's own example is clear: if shares are acquired on Day 1, the election must be signed before midnight at the end of Day 15. The clock does not start when the employee notices the paperwork.

Because most share schemes involve multiple signatories, you should prepare the election ahead of completion and circulate it for signature at the same time as the share issue or option exercise. Electronic signatures are acceptable provided the parties can show an intention to enter into the agreement. You cannot rely on a later date or “good reason” to excuse a late election.

If the shares are acquired through an Enterprise Management Incentive (EMI) option granted at market value, there is a deeming rule that treats a Section 431 election as having been made on exercise of the option.

However, the deeming rule does not apply if the option was granted at a discount. It is best practice to include a specific S431 election with the EMI exercise paperwork. Undo Capital’s EMI option scheme guidance explains how to integrate the election into your option exercise documentation.

How to make an S431 election (step by step)

Making an S431 election is relatively straightforward. What matters is timing and documentation. Here is a simple process founders can follow:

1. Identify whether the shares are restricted. Most private‑company shares have restrictions (e.g., leaver provisions, pre‑emption rights, drag‑along rights), so assume that an election is needed unless your professional adviser tells you otherwise.
2. Determine the unrestricted and actual market value. You may need a professional valuation. The UMV is the share price ignoring restrictions; the AMV accounts for them. The difference will be subject to income tax upon making the election.
3. Prepare the HMRC form. HMRC publishes a model form for Section 431 elections. You can download it from the HMRC Employment Related Securities manual. The form contains the election wording required under ITEPA 2003 s.431 and must be used or replicated precisely. Undo Capital customers can generate the form automatically from their cap table management tools, ensuring the correct details are inserted.
4. Complete the details. Fill in the names of the employee and employer, the date the shares were acquired, the class and number of shares, and whether the election covers all restrictions or specific restrictions. There are two types of election under Section 431: a full election (s 431(1)), ignoring all restrictions and a partial election (s 431(2)), ignoring only certain restrictions. Most start‑ups use the full election.
5. Sign within 14 days. Both parties must sign and date the form within 14 days of share acquisition. Electronic signatures are acceptable. It is good practice to include the election as a schedule to the subscription or option exercise agreement and have it executed simultaneously.
6. Keep copies and report. Do not send the election to HMRC. Instead, keep a copy with your corporate records and provide a copy to the employee. Record that the election has been made in your Employment Related Securities (ERS) return (due by 6 July following the tax year). Undo Capital’s shareholders hub and cap table software can store elections and automatically populate your ERS report.
7. Monitor compliance. If shares are later transferred or restrictions change (for example, on a share exchange in a funding round), you may need to make new elections for the new securities. Keep track of elections in your cap table to avoid missing a future window. For acquisitions of convertible loan notes or growth shares, discuss with your adviser whether a section 431 election or another election (such as Section 430 or Section 425) is required.

S431 elections, EMI options and your employee share scheme

Equity compensation comes in many flavours: Enterprise Management Incentive (EMI) options, Company Share Option Plans (CSOPs), Share Incentive Plans (SIPs), Save As You Earn (SAYE), growth shares, phantom shares and unapproved options. Each plan is designed to motivate and retain employees, but they have different tax treatments. Understanding how a Section 431 election intersects with these plans helps you decide when to use it.

Do you need an S431 election for EMI options?

EMI options are the gold standard for UK start‑ups because of their generous tax advantages. Employees do not pay income tax or National Insurance on the grant or exercise if options are granted at market value and certain conditions are met. When employees exercise EMI options, they acquire shares that may still be restricted (for example, leaver provisions in the articles). If the option was granted at a discount to market value or if there is any doubt about the valuation, a Section 431 election should be completed at exercise. This ensures that any uplift due to restrictions is taxed as capital, not income.

Even when EMI options are granted at full market value, many advisers recommend including a “belt‑and‑braces” S431 election in the exercise documentation. The cost is minimal and provides certainty. Undo Capital’s EMI option workflow automatically includes the election in the exercise package, so your team signs once, and the document is stored alongside the option grant.

Where does this fit in your cap table?

Your cap table is the living record of who owns what in your company. Each share issuance, option exercise, or share transfer must be captured accurately to reflect ownership percentages and valuations. When you issue restricted shares and make a Section 431 election, you need to record not only the number of shares but also whether the election was made. Missing elections can create hidden liabilities that complicate funding rounds or exits. By managing your cap table with software such as Undo Capital’s real‑time cap table management, you can track elections, valuations and vesting schedules in one place. This helps investors trust your numbers and makes due diligence smoother.

Employee share schemes also interact with other parts of your equity structure. For example, growth shares or joint share ownership plans may require Section 431 or 430 elections to avoid income tax on future gains in value. Phantom shares or dividend‑only plans may not involve share issuance at all, but they should still be recorded in your cap table to model dilution and cash outflows. The key is to integrate legal documentation, valuations and elections into your equity platform so you never lose sight of your obligations.

Common S431 election mistakes founders make

Even seasoned founders can trip up on the details. Here are some of the most common mistakes and how to avoid them:

1. Leaving it too late. The 14‑day window is immovable. If you wait for lawyers or HR to chase signatures after completing a funding round, you may miss the deadline. Prepare the election alongside the share issuance documents and ensure both parties sign upon completion.
2. Wrong signatories. The election must be made between the employer and the employee acquiring the shares. In group structures, the employing entity may be different from the issuing company. Make sure the correct employer signs. If multiple employees acquire shares, each needs their own election. For consultants or family members, sign a precautionary election just in case their employment status is challenged.
3. Assuming EMI covers everything. EMI options automatically deem an election when options are granted at market value, but not when options are granted at a discount. Always include the election in your EMI exercise paperwork, especially for discounted grants.
4. Ignoring growth share exchanges or spin‑offs. When shares are exchanged (for example, converting shares to parent company shares in a funding round or creating a new class), the election history may not carry over. You may need to make fresh elections. Check with your adviser whenever there is a share exchange.
5. Not keeping records. HMRC does not want your election, but they can ask to see it. Failure to produce evidence may lead to a tax assessment. Store signed elections with your cap table and attach them to your Employment Related Securities return.
6. Forgetting about valuation. The difference between AMV and UMV determines the up‑front tax. If you underestimate the UMV, HMRC may challenge the valuation and increase the tax due. Work with a professional valuer and keep evidence to support your figures.

By anticipating these issues, you can integrate S431 elections seamlessly into your share issuance process and avoid messy surprises later.

Keep your share issues and cap table clean with Undo Capital

Staying on top of equity paperwork while scaling a start‑up is hard. Founders must juggle funding rounds, option grants, regulatory filings and board approvals. Undo Capital’s software helps founders streamline these processes by automatically generating Section 431 election forms, storing signed copies with your cap table, and pre‑populating Employment Related Securities returns. Our cap table management module tracks ownership in real time and models dilution, while the EMI option pool product helps design tax‑advantaged option grants and integrates S431 elections seamlessly.

Undo doesn’t offer legal or tax advice, but it does provide the tools to help you stay compliant and investor‑ready.

Book a demo to see how Undo Capital can simplify your equity administration and ensure that every S431 election is signed on time.