When does an employee share option need DFSA approval?

• An authorised firm must align its remuneration structure with its risk parameters, which a standard retention-only vesting schedule does not do.
• The regulator expects deferral, retention or recovery where performance cannot be measured across several years.
• An unexercised option is a right to acquire shares, and it counts towards the control thresholds.
• A recovery taken from an employee's final pay in the DIFC needs written consent given in advance.

Which firms and which employees the remuneration rules cover

GEN 5.3.31 of the DFSA Rulebook governs remuneration at every Authorised Person in the DIFC. The rule applies across the firm and names a minimum group of employees it must cover. Our UAE corporate and commercial counsel advise authorised firms on equity plans and on the regulatory approvals that follow from them.

That minimum group is four categories: members of the Governing Body, senior management, persons undertaking key control functions, and major risk-taking employees. GEN 5.3.31(3) defines a major risk-taking employee as one whose actions have a material impact on the firm's risk exposure. A key control function means compliance, risk management or internal audit.

A firm that holds a DFSA or FSRA licence is an authorised firm for this purpose. A group company that holds no licence is not, although its plan may still cover licensed staff. Our article on who needs a licence to give investment advice in the UAE explains where the licensing line falls.

What the rules require of an equity plan

GEN 5.3.31(1)(b) requires the remuneration structure to align risk outcomes with the roles of employees. The Governing Body must take account of whether an employee's actions may expose the firm to unacceptable financial, reputational and other risks.

The DFSA publishes its best practice on remuneration as guidance in Appendix 3.2 of GEN. A firm may depart from that guidance where it does not suit the business. The DFSA expects the firm to explain the departure and its reasons on request. On performance-based remuneration, the guidance advises firms to adjust for the material current and future risks attached to an employee's performance. Where performance cannot be measured across a multi-year period, the guidance advises deferral of vesting, retention, or recovery of the award.

A four-year vesting schedule copied from a United States plan answers a retention question and nothing else. It contains no risk adjustment, no board power to reduce an unvested award, and no recovery mechanism. Risk adjustment means the award can fall in value where the risk an employee created materialises later. Retention alone rewards the employee for remaining, whatever the outcome of the decisions taken along the way. The design questions are covered in our guide to employee stock options in the UAE, and the regulatory overlay is additional to all of them.

GEN 5.3.31(2) requires the Governing Body to give the DFSA enough information to demonstrate that the structure meets the rule on an ongoing basis. The guidance expects the annual report to describe the decision-making process behind the policy and the main elements of the structure. It also expects aggregate figures for the four categories above. Significant changes to the structure should be notified to the DFSA.

When an option exercise needs regulator approval

Under GEN 11.8 of the DFSA Rulebook, a person becomes a Controller of an Authorised Firm at 10% of the shares or voting rights. A person who can exercise significant influence over the firm's management is also a Controller.

GEN 11.8.3 measures that holding by reference to shares, voting rights and rights to acquire shares or voting rights. Holdings of an Associate are added, and the rule then lists the cases in which a holding is disregarded. An unexercised option is a right to acquire shares. A grant can therefore affect the calculation before anyone pays an exercise price.

GEN 11.8.4 prohibits a person from increasing control past the specified thresholds without the prior written approval of the DFSA. For a person in the UAE, the DFSA requires prior approval at 10%, 30% and 50%. A person outside the UAE notifies the DFSA instead of applying for approval.

The obligation is not only the employee's. GEN 11.8.11 requires the Authorised Firm to notify the DFSA in writing as soon as possible after it becomes aware of the event. The firm need not do so where it is satisfied on reasonable grounds that the Controller has already applied or notified.

Timing matters for a plan with a fixed exercise window. Under GEN 11.8.7, the DFSA must give notice within 90 days of receiving the completed application form where it proposes to object. The same period applies where it proposes to approve the acquisition subject to conditions. The applicant then has 14 days to make representations.

Guidance under GEN 11.8.8 states that a person who acquires or increases control without prior DFSA approval is in breach of the Rules. GEN 11.8.13 allows the DFSA to issue an objection notice, impose conditions, or require the person to dispose of the holding. The final notice specifies the period for disposal, and the person may refer the decision to the Financial Markets Tribunal. A firm with modest share capital can pass 10% on a single senior grant. The enforcement consequences are described in our article on what triggers a DFSA investigation.

How the DFSA and FSRA positions differ

The FSRA applies remuneration provisions to ADGM authorised firms in substantially the same terms as the DFSA. Both regulators assess an applicant for control on fitness and propriety, financial soundness, and the effect on the firm's ability to meet its obligations.

Whether malus and recovery clauses are enforceable under DIFC employment law

Article 19 of DIFC Law No. 2 of 2019 requires an employer to pay all remuneration owed within 14 days of termination. The Law imposes a penalty on an employer that does not.

DIFC Law No. 4 of 2021 widened the definition of an Additional Payment. It now covers bonuses, incentives, grants, commission, drawings and distributions. The payment must be discretionary, non-recurring, or calculated by reference to the profits of the employer or an affiliate. An Additional Payment is excluded from the 14-day obligation. A deferred award drafted to meet that definition therefore survives termination on its own terms. An award drafted as contractual salary does not.

Article 20 prohibits a deduction from an employee's wage. The exceptions are a deduction the Law permits, one the employee has consented to in writing, and one a court has ordered. A recovery taken from final pay is a deduction. The written consent has to exist before the recovery, which means the grant documents carry it.

What the plan documents should say

• Identify which participants belong to the four categories in GEN 5.3.31(1)(c), and record the assessment.
• Give the board an express power to reduce or cancel an unvested award on stated risk and conduct grounds.
• Obtain the participant's written consent at grant to any recovery from wages.
• Make an exercise conditional on the regulator's prior approval where it would take the participant past a control threshold.
• Maintain a register of rights to acquire shares, so the firm can answer its annual controller reporting obligation.

The plan also has to agree with the constitutional documents and any investor rights. Pre-emption, transfer consent and compulsory transfer provisions are covered in our article on shareholder agreements in the UAE.

Does your plan satisfy the rulebook and the employment law at the same time?

A plan can meet the DFSA's expectation on risk adjustment and still create an unlawful deduction under Article 20. It can satisfy both and still deliver a controller breach on the first senior exercise. The three requirements are assessed separately, by different bodies, and a plan drafted for one of them alone will fail the others.

Legal advice may be required to assess how these obligations apply to a particular firm, its licence category and its existing plan documents.

‍