Share Options & Other Rights Tax Treatment

Introduction

Where a director or employee, by reason of his/her office or employment, obtains a right to acquire shares (“share option”) or any other asset(s) in any company the legislation provides for income tax and capital gains tax consequences.

The charge to income tax is under Schedule E and it applies to any gain arising on the exercise, assignment or release of a right or option (and also on any gain arising on the grant of a “long option or right”) by an individual on or after 6 April 1986 as a director of a company or as an employee.

A “long option or right” is an option or right which is capable of being exercised more than 7 years after the grant date.

Any shares or other assets acquired by the exercise of a share option or other right are chargeable to capital gains tax on the subsequent disposal of those shares or assets.

This article outlines:

• the scope of the legislation [section 128 TCA 1997] in relation to share options and other rights
• the charge to income tax and capital gains tax
• the information return requirements, and

incorporates the changes introduced by Section 27 Finance Act 2000.

Scope of the legislation

Section 128 Taxes Consolidation Act 1997 applies to any right obtained by a person as a director of a company or as an employee. The section defines “right” as a right to acquire any asset or assets including shares in any company. “Shares” is defined as including stock and securities.

A person is regarded as acquiring a right as a director of a company or as an employee if, by reason of his/her office or employment, it is granted to him/her or to another person who assigns the right to him/her.

Section 128 applies notwithstanding that the right may be granted either before the director or employee commenced to hold the office or employment or after he/she ceased to hold the office or employment. However, the section does not apply to a right obtained by reason of a foreign office or employment the income from which is taxable on a remittance basis under Section 71(3) on the director / employee.

In effect, the legislation applies to options to acquire shares (i.e. share options) and other rights to acquire shares or assets granted to directors and employees by reason of their office or employment.

Charge to Income Tax

The charge to income tax arises for the tax year in which the share option or other right is exercised, assigned or released and also, in the case of “long options or rights” for the tax year in which granted.

Section 27 Finance Act 2000 inserts a new section 128A Taxes Consolidation Act 1997 and makes provision for a taxpayer to elect to defer payment of the income tax payable on the gain arising on the exercise of a share option.

The income tax payable may be deferred until the earlier of the year of assessment:

• in which the shares acquired by the exercise of the right are disposed of, or
• which is 7 years after the year of assessment in which the exercise took place.

To qualify for the deferral of tax

1. the right to acquire shares must be exercised on or after 6 April 2000 and result in an amount chargeable under Schedule E, and
2. an assessment must be made for that year, and
3. the recipient must make an election.

However, it cannot apply if the disposal of the shares takes place in the same year as the right to acquire those shares is exercised.

The election must be made in writing to the Inspector by the normal return filing date i.e. 31 January after the end of the relevant year of assessment.

Where the tax has been deferred, payment is required to be made on the earlier of the following:

1. 1 November in the year after the year of assessment in which the shares are disposed of, or
2. 1 November in the year after the year of assessment beginning 7 years after the rights to acquire the shares were exercised.

There is also provision in relation to a part disposal of shares and the legislation ensures that if, say, half of the shares so acquired, are disposed of in any year, then only half of the deferred tax payable becomes due for payment. It also envisages events such as rights or bonus issue of stock or stock splits and ensures that by applying a just and reasonable basis for apportionment, that the appropriate amount of tax will be paid, for example:

• Year 1: 1,000 shares acquired giving rise to a deferred tax payable of £10,000
• Year 2: 500 shares sold. Income Tax payment of £5,000 is due
• Year 3: a stock split occurs (2 for 1). The person’s holding of shares is now 1,000 (500 × 2)
• Year 4: a further 500 shares sold. Income tax payment of £2,500 is due
• Year 5: the balance of 500 shares is sold. Income tax payment of £2,500 is due.

Capital Gains Tax is also due in respect of gains arising on the disposal of the shares.

Where there is an election to defer the tax charge and subject to any other similar provision in the Tax Acts, the gain realised is to be regarded as the last part of the person’s income. This means that the tax thereon is calculated at the person’s marginal rate of tax and that amount of tax is deferred.

The due date for payment of tax which has been deferred will, for the purposes of section 1080 TCA 1997, be the date when the tax becomes due and payable. This means that the interest provisions will apply from that date.

The amount of the gain chargeable to income tax is:

Share Options or Rights Exercised

• Market value of the shares or other assets (the subject of the option or right) at the date of their acquisition
  less
• Aggregate of the value of the consideration given for the shares or other assets and the price (if any) paid for the grant of the option or right

Share options or rights assigned or released

• Consideration received for assignment or release
  less
• Price (if any) paid for grant of the option or right

Long Options or Rights

Where the exercising of a share option or right can be delayed for more than seven years a tax charge arises also for the tax year in which granted. The amount chargeable is:

• Market value of the shares or other rights (the subject of the option or right) at the date the option or right is granted
  less
• Option price (if any) at which the shares or other assets may be acquired on the exercise of the option or right. [If the option price is variable the lowest possible option price is taken.]

In addition, tax is charged when the share option or right is exercised, assigned or released.

Any tax chargeable on the grant can be deducted from any tax subsequently chargeable on the exercise, assignment or release of the option or right.

Section 27 FA 2000 puts beyond doubt that persons in receipt of share options are chargeable to tax under self-assessment in respect of the gain arising to them from share options - except where the amount of the gain is deducted in determining the amount of the person’s Tax-Free Allowances for that year, or the person has been exempted from the requirement to make a return by reason of a notice given under section 951(6) TCA 1997.

Charge to Capital Gains Tax

An individual who acquires any shares or other assets by the exercise of a share option or other right is chargeable to capital gains tax on any chargeable gain realised on the subsequent disposal of those shares or assets.

The acquisition cost of the shares or other assets for capital gains tax purposes is:

• The actual price paid for the shares or other assets on the exercise of the option, plus
• the price (if any) paid for the grant of the option, plus
• the amount charged to income tax under Schedule E in respect of the exercise of the option.

Indexation is available, subject to the normal rules, by reference to the date the expenditure is incurred. In the case of any amount charged to income tax under Schedule E that date may be taken to be the date the tax is paid.

Information Returns

Section 128 requires that persons must provide particulars to Revenue in respect of:

• share options and other rights granted, assigned or released, and
• shares allotted and assets transferred in pursuance of a share option or other right to acquire shares or assets.

Self assessment principles apply to the making of a return. Form SO2 - Share Options and Other Rights is the form provided for the return of particulars under section 128. Section 27 Finance Act 2000 has amended the deadline for the making of such returns to 30 June after the end of the year of assessment in which the grant, assignment etc. took place.

Section 27 Finance Act 2000 provides that returns will also be required from the Irish employer where the share options are granted by a non-resident company.

Forms SO2 - 1999/2000 issued at the end of April 2000 to about 1,900 employers for completion. Notwithstanding that an employer may not receive a Form SO2 for completion the return of particulars must be made in all cases where share options or other rights are granted, assigned etc.

Copies of the form [IR£ and euro versions] are available on request from local tax offices.