Revenue Note for Guidance

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Revenue Note for Guidance

128C Tax treatment of directors of companies and employees who acquire convertible securities

Summary

This section imposes an income tax charge on the conversion of securities acquired by a director or employee by reason of his or her office or employment (“employment-related securities”) into securities of another description or into money or money’s worth. The income tax charge is based on the difference between the market value (immediately after conversion) of the securities into which the employment-related securities are converted and the market value of the employment-related securities (ignoring the right of conversion), reduced by any amounts paid by the employee or director in connection with the entitlement to convert and any amounts already charged to income tax.

The section also imposes an income tax charge in certain circumstances other than conversion – release of the entitlement to convert the securities; disposal of the securities while they are still convertible; and receipt of a benefit in connection with the entitlement to convert the securities.

Any person chargeable to income tax under this section is, generally, to be regarded as a chargeable person under self-assessment for the year in which the charge arises.

Where a company awards convertible securities to its employees or directors, it is obliged to return details of such awards and details regarding the conversions to the Revenue Commissioners in an electronic format approved by them.

The section applies to employment-related securities acquired by an employee or director on or after 31 January 2008.

Details

(1) Definitions

chargeable amount” has the meaning given in subsection (6), and is to be computed in accordance with subsection (8).

chargeable event” has the meaning given in subsection (7).

collective investment scheme” means any scheme or arrangement made for the purpose, or having the effect, of providing facilities for the participation by persons, as beneficiaries, in profits or income arising from the acquisition, holding, management or disposals of assets.

convertible securities” has the meaning given in subsection (3).

director” is, broadly, any person occupying the position of director and includes a manager and any person who is to be or has been a director.

employee” is, broadly, an officer, director or manager of the company and includes a person who is to be or was an employee.

interest” in relation to securities, includes an interest in securities which is less than full beneficial ownership and an interest in the proceeds of the sale of them, but does not include a right to acquire securities. “market value” is the price which the security might reasonably be expected to fetch on a sale in the open market.

securities” is widely defined, and includes —

  1. shares,
  2. securities within the meaning of section 135,
  3. debentures, debenture stock, loan stock, bonds, certificates of deposit, and other instruments (including certificates and warrants) creating or acknowledging indebtedness, including certificates and other instruments providing for a share in the profits of a company,
  4. options (other than options to acquire securities, except where such options are acquired under arrangements of which the main purpose or one of the main purposes is the avoidance of income tax, corporation tax or capital gains tax) and financial and commodity futures (within the meaning of the Investment Intermediaries Act 1995),
  5. warrants and other instruments entitling their holders to subscribe for securities,
  6. certificates and other instruments conferring rights in respect of securities held by persons other than persons on whom the rights are conferred and the transfer of which may be effected without the consent of those persons,
  7. units in a collective investment scheme,

but it does not include cheques or other bills of exchange, bankers’ drafts or letters of credit, statements showing balances in current, deposit or savings accounts, or leases and other dispositions of property.

shares includes securities within the meaning of section 135, and stock.

Scope of charge

(2) & (3) The scope of the charge is limited to employees and directors who acquire securities in a company as an employee or director of that or of another company (“employment-related securities”), and at the time of acquisition the securities are convertible securities. (The meaning of “convertible securities” is dealt with in subsection (4)). A charge also arises where the securities are acquired by a person other than the employee or director, and are so acquired by reason of the employee’s or director’s office or employment (this includes a current, former or prospective office or employment).

Convertible securities

(4)(a) & (b) To come within the section, the employment-related securities must be capable of conversion into securities of another description or into money or money’s worth, because:

  • the right to convert is automatically built into the securities (for example, if it is specified in the articles of association of the company that issued the securities that they carry a right of conversion), or
  • it is provided for in a contract, agreement, arrangement or condition in the event that certain circumstances arise or do not arise (for example, where the employer specifies that a certain period must expire before the securities can be converted).

The section will also apply where a contract, agreement, arrangement or condition provides for the conversion of the securities by someone other than the holder into securities of a different description or into money or money’s worth.

The charge to tax on the acquisition of convertible securities

(5)(a) The value of any right to convert is to be ignored when calculating any income tax charge arising under Schedule E computed in accordance with section 112, or on the exercise of a right under section 128, or in accordance with section 122A, on the acquisition of the convertible securities.

(5)(b), (c) & (d) However, where the securities are acquired under an arrangement of which the main purpose or one of the main purposes is the avoidance of tax, the income tax charge on acquisition is to be calculated on the basis that the securities are “immediately and fully convertible”, unless the market value ignoring the right to convert would be less than or the same as the market value taking account of the right to convert.

Immediately and fully convertible” means convertible immediately after acquisition so as to obtain the maximum gain that would be possible without allowing for any consideration given for the conversion or for any expenses incurred in connection with the conversion.

Example

As part of a tax avoidance scheme, an employee is awarded, under certain conditions, a “B ordinary” share which is convertible into an “A ordinary” share. At the date of the award, the market value of the “A ordinary” share is €200 and the market value of the “B ordinary” share ignoring the right of conversion is €20. Subsection (5)(c) ensures that the real benefit passing to the employee will be taxed (i.e. €200) by treating the “B ordinary” share as having immediately and unconditionally converted into the “A ordinary” share.

If however, under a tax avoidance scheme an attempt is made to exploit the treatment outlined above, for example, if the employee is awarded a “B ordinary” share which has a market value of €500 with a right to convert it into the “A ordinary” share (which has a market value of €200), subsection (5)(b) will ensure that the market value of the “B ordinary” share – €500 is used to calculate the benefit arising to the employee.

The charge to tax on the conversion of convertible securities

(6) Subject to the exclusions covered in subsection (11), a charge to income tax arises on an employee or director having a beneficial interest in employment-related securities on the occurrence of a “chargeable event”. The charge is under Schedule E and is imposed in the year of assessment in which the chargeable event occurs. (The meaning of “chargeable event” is dealt with in the note on subsection (7)).

(7) There are four circumstances that give rise to a chargeable event. These are:

  • the conversion of the employment-related securities into securities of another description, where the employee or director (or any other person who acquired the employment-related securities by reason of the employee’s or director’s office or employment) has a beneficial interest in those securities before the conversion occurs and in the securities into which they are converted,
  • the release of the entitlement to convert for consideration, where the employee or director (or any other person who acquired the employment-related securities by reason of the employee’s or director’s office or employment) has a beneficial interest in the securities,
  • the disposal for consideration of the employment-related securities by the employee or director (or any other person who acquired the employment-related securities by reason of the employee’s or director’s office or employment) while they are still convertible, and
  • the receipt of a benefit in money or money’s worth by the employee or director (or any other person who acquired the employment-related securities by reason of the employee’s or director’s office or employment) in connection with the entitlement to convert (for example, the receipt of compensation for the loss of the entitlement).

Amount chargeable

The formula for calculating the chargeable amount is A – B, where:

(8)(a) A is the amount of any gain realised on the occurrence of a chargeable event. This amount is computed differently for each of the chargeable events.

B is the aggregate of the amount of any consideration given for the entitlement to convert and any expenditure incurred by the holder in connection with each chargeable event.

(8)(b)(i) Calculation of gain on the conversion of employment-related securities into securities of a different description

The gain is determined by the formula:

C- (D + E),

where:

C is the market value, at the time of the chargeable event, of the securities into which the employment-related securities are converted and where those securities are themselves convertible, the market value is determined as if they were not convertible. Where the employment-related securities are an interest in securities (i.e. an interest less than the full holding), then a proportion of this market value, which is equivalent to the proportion of the interest held, is to be used, (e.g. 50% of the full holding held, then 50% of the market value at the time of the chargeable event, of the securities into which the employment-related securities are converted is to be used).

D is the market value of the employment-related securities at the time of the chargeable event, determined as if they were not convertible securities or an interest in convertible securities.

E is the amount of the consideration given for the conversion of the employment-related securities.

Example

An employee is awarded “A ordinary” shares which have a right of conversion after 5 years attaching to them. The market value of the shares at the date of acquisition, ignoring the right of conversion, is €1,000. On conversion, the employee receives “B ordinary” shares that have a market value of €3,000, for a consideration of €100.

The market value at the date of conversion of the “A ordinary” shares (ignoring the right of conversion) is €1,100.

Income Tax charge on acquisition

Market value of the “A ordinary” shares ignoring the right of conversion

€1,000

Consideration paid by the employee

0

Chargeable amount

€1,000

Income Tax charge on conversion

Market value of “B ordinary” shares

€3,000

Less

Market value of the “A ordinary” shares

€1,100

Consideration paid

100

€1,200

Chargeable amount

€1,800

Prevention of a double charge

(8)(c) Where the income tax charge on the acquisition of the employment-related securities is based on the market value of the securities as if they were immediately and fully convertible (because of the operation of paragraph (b) of subsection (5)), a double charge is prevented by providing for the chargeable amount computed in accordance with subsection (8) to be reduced by the amount determined by the formula H – I, where:

H is the amount by which the market value of the employment-related securities computed as if they were immediately and fully convertible exceeds the market value of the employment-related securities ignoring the right of conversion.

I is the aggregate of any amount by which the chargeable amount on any previous chargeable event relating to the employment-related securities has been reduced under subsection (8).

Example

As part of a tax avoidance scheme, an employee is awarded, under certain conditions, a “B ordinary” share which is convertible into an “A ordinary” share. At the date of the award, the market value of the “A ordinary” share is €1,000 and the market value of the “B ordinary” share, ignoring the right of conversion, is €20. On conversion, the employee receives an “A ordinary” share that has a market value of €3,000, for a consideration of €100.

The market value at the date of conversion of the “B ordinary” share (ignoring the right of conversion) is €25.

Income Tax charge on acquisition

Market value of the “B ordinary” share treated

as if it is immediately and fully convertible

€1,000

Consideration paid by the employee

0

Chargeable amount

€1,000

Income Tax charge on conversion

Market value of “A ordinary” share

€3,000

Less

Market value of the “B ordinary” share

€25

Consideration paid

€100

Excess charged on acquisition (€1,000 – 20)

€980

Aggregate amounts previously charged under

Section 128C

0

€1,105

Chargeable amount

€1,895

Calculation of gain on the release of entitlement to convert for consideration

(8)(b)(ii) The gain is the amount of the consideration received for the release of the entitlement to convert.

Calculation of gain on the disposal for consideration of the employment related securities prior to conversion

(8)(b)(iii) The gain is determined by the formula:

F – G,

where:

F is the amount of consideration given on disposal of the securities.

G is the market value of the employment-related securities at the time of the chargeable event, determined as if they were not convertible securities or an interest in convertible securities.

Example

An employee is awarded “A ordinary” shares which have a right of conversion after 5 years attaching to them. The market value of the shares at the date of acquisition, ignoring the right of conversion, is €1,000. The employee sells the securities (while they are still convertible) after 3 years for €3,000.

The market value of the “A ordinary” shares (ignoring the right of conversion) at the date of sale is €1,100.

Income Tax charge on acquisition

Market value of the “A ordinary” shares

ignoring the right of conversion

€1,000

Consideration paid by the employee

0

Chargeable amount

€1,000

Income Tax charge on disposal

Consideration received

€3,000

Less

Market value of the “A ordinary” shares

ignoring the right of conversion

€1,100

Chargeable amount

€1,900

Calculation of gain on the receipt of a benefit in connection with the entitlement to convert

(8)(b)(iv) The gain is the amount of the benefit received in connection with the entitlement to convert.

Consideration given for the entitlement to convert the employment-related securities

(9)(a)&(b) For the purposes of calculating B in the formula in subsection (8)(a), consideration is to be treated as given for the entitlement to convert the employment-related securities only if the amount of any consideration given for the acquisition of the employment-related securities exceeds the market value of such securities (determined as if the employment-related securities were not convertible securities) at the time of their acquisition.

The effect of this provision is that it allows for relief to be given for any amount of consideration not previously allowed against any amount chargeable on the acquisition of the convertible securities in computing the amount of the gain on the conversion of the securities.

For example, if an employee paid €30 for a convertible share, which was valued at €10 ignoring the right to convert. The charge on acquisition (provided there was no tax avoidance scheme involved) would have been nil (€10-€30). If the shares are subsequently converted, the employee will be entitled to a deduction for the unrelieved amount, €20, in calculating the income tax charge on the conversion of the securities.

(10) In calculating the chargeable amount under this section, the performance of the duties in connection with the office or employment is not regarded as part of any consideration given by the employee or officer for the acquisition of employment-related securities or part of any consideration given for the entitlement to convert such securities. In addition, only one deduction can be allowed in respect of any consideration given.

Exclusions from charge

(11) & (12) The section does not apply where all of the following conditions are satisfied:

  • the securities are shares in a company,
  • the right to convert applies to all shares in the same class as the employment-related shares,
  • an event similar to that which effects the employment-related shares also effects all the other shares of the same class, (shares are converted into securities of a different description; the entitlement to convert is released; shares are disposed of; a benefit is received in respect of the entitlement to convert, as the case may be), and
  • the majority of the shares so affected are not employment-related securities.

In addition, no charge arises where, at the time of acquisition of the employment-related securities, the emoluments from the office or employment are not within the charge to tax under Schedule D or E.

Chargeable persons

(13) Any person chargeable to tax under this section is a chargeable person for the purposes of Part 41A (Self Assessment) other than where the person is exempted from the requirement to make a tax return under self-assessment.

Capital Gains Tax

(14) Any amount charged to income tax under this section is to be added to the costs of acquisition of the securities in computing the amount on which capital gains tax is chargeable on the disposal of such securities.

Information

(15) Companies must provide details of all awards of convertible securities made to employees and directors and details regarding the occurrences of chargeable events to the Revenue Commissioners in an electronic format approved by them not later than 31 March in the tax year following the year in which the awards are made or the chargeable events occur, as the case may be.

Relevant Date: Finance Act 2020