3.4 Sweat equity

Many new societies are highly reliant on their founder members and volunteers doing unpaid work to help get the enterprise up and running. This is sometimes referred to as sweat equity. There are two options for payment of sweat equity:

Issue shares to the founders

A society can issue shares to its founders to recognise their contribution, provided this is permitted in the rules.  However, the issue of such shares would be taxable on the individuals as ‘employer related securities’. If such shares are issued they should be recognised in the accounts as fully paid in the balance sheet and as an expense in the profit and loss account. Where these shares have been issued by a society as withdrawable shares, the member can withdraw them and receive their value at a later date.

Agree now to pay wages at a future date

There are a number of ways to account for this which have different tax consequences:

• The society could accrue for start-up costs in the accounts. This would be to recognise that the society has incurred a cost which it will probably have to pay out in the future. Under FRS102 costs must be accrued if they are measurable, are likely to be paid in the future and are the result of a past event.
• If the society, instead of accruing for the costs, credits them to the directors’ loan accounts, then for tax purposes, Pay As You Earn (PAYE) tax and National Insurance Contributions (NIC) would have to be accounted for. This is because crediting a director’s loan account has been deemed by the courts to be the equivalent of making payment to the directors. The money is effectively immediately available to the directors to draw down.
• If the amount of the sweat equity cannot be measured, or if it is unlikely to be paid to the founder member, then no accrual should be made in the accounts. In this case the accounts should include a note of this contingent liability.