Approved Profit Sharing Schemes

Approved for the purposes of Chapter 1, Part 17, Taxes Consolidation Act 1997 and Schedule 11 of that Act

Basis of Entitlement for shares

Background to this article

A number of queries have arisen in relation to accepted methods that can be used as a basis of entitlement to shares for the purposes of satisfying the “similar terms” provisions in the legislation governing approved Profit Sharing Schemes. Revenue’s position on this matter is set out hereunder. Practitioners should note in particular sections headed Bonuses and Flex Plans below.

Profit Sharing Schemes

Basis of Entitlement for Similar Terms

The original intention and spirit of the legislation was that companies would give free shares to employees with the cost being borne by the company. This would usually only occur when substantial profits were made. Under the provisions of Paragraph 4, Schedule 11, Taxes Consolidation Act, 1997, all employees and directors meeting the qualifying conditions must be eligible to participate in Profit Sharing Schemes at the same time and must do so on “similar terms”.

The purpose of the “similar terms” requirement is to ensure, based on objective criteria, the fair distribution of shares between participants. The formula used must ensure a straight line progression from those participants at the bottom of the earnings scale to those participants at the top of the earnings scale. This does not mean that every participant must be allocated the same number of shares. Rather, a scheme may provide for the appropriation of shares to participants by reference to their levels of remuneration, their length of service or other similar factors. Where levels of remuneration are used, these should relate to basic remuneration. Any fluctuating emoluments (i.e. overtime, bonuses, etc.) must be excluded. Shift premium payments are treated as part of basic remuneration for this purpose.

Bonuses

A number of the queries giving rise to this article relate to bonuses. In general, there are two types of bonuses -

1. non-discretionary (also known as ‘fixed bonuses’); and
2. discretionary bonuses

Non-Discretionary Bonuses (also known as ‘fixed bonuses’)

It appears that a practice may have developed over the years in some approved Profit Sharing Schemes whereby non-discretionary bonuses are used as the basis of entitlement to shares for the approved Profit Sharing Scheme. In particular, it would appear that bonuses to which employees have an entitlement under their contracts of employment may have been included in approved profit sharing scheme and used as the basis for entitlement for shares under such scheme. However, this is not a permitted basis of entitlement to benefits under an approved Profit Sharing Scheme as, in Revenue’s view, it amounts to salary substitution. In future, Revenue will not approve new Profit Sharing Schemes, which have a non-discretionary bonus as a basis of entitlement. Neither will existing approved Profit Sharing Schemes be allowed to amend the basis of entitlement to include a non-discretionary bonus.

Discretionary Bonuses

Companies allocate, at their discretion, bonuses to staff. Historically, Revenue have, by way of concession, allowed companies to use discretionary bonuses, based on objective criteria, payable to all directors/employees as a basis of entitlement to shares under approved Profit Sharing Schemes.

However, where a company allocates discretionary bonuses which are not payable to all members of staff, then such bonuses do not fulfil the “similar terms” criteria required for approved Profit Sharing Schemes [i.e. such bonuses cannot be used as a basis of entitlement to shares under an approved Profit Sharing Scheme]. 2.3

Examples of Similar Terms

Some examples of ‘similar terms’ include all eligible employees being entitled to receive

• A number of shares based on the same percentage of their basic salary
• The same number of shares
• A number of shares for each year of service
• A number of shares calculated by reference to the proportion (percentage) an individuals’ salary bears to the total salaries of the company
• Shares based on the results of a Performance/Appraisal scheme.

Salary Banding

It is acceptable to appropriate shares by reference to salary banding provided the following guidelines are adhered to:

• The maximum amount allowed between Bands is €6,350
• All the Bands must have the same amount between them
• The same point on the Band must be used for all
• The Bands cannot cross over
• The same percentage must be used for all Bands.

Service and Salary

The appropriation of shares by reference to an agreed formula which allows the addition of service and salary is also acceptable. A straight line progression from those participants with the lowest service to those participants with the highest service must be achieved.

Performance/Appraisal Schemes

The appropriation of shares by reference to Performance/Appraisal schemes may also be acceptable subject to the following conditions being satisfied:

• The scheme must be objective, non-discriminatory and in accordance with the “similar terms” provisions in the legislation
• The same percentage range must apply to all employees
• There must be no salary substitution
• There must be no tax planning, and
• The performance scheme must be for sound commercial reasons.

Age, Status (Seniority) or Grade

The appropriation of shares by reference to the age of the participant or the status or grade of the participant will not be regarded as meeting the “similar terms” requirements.

Flex Plans

Flex Plans are generally introduced as part of a broad negotiated agreement for changes in the terms and conditions of employees. They provide employees with an opportunity to design the pay and benefit packages that most suit their needs. This concept of flexibility on offer from the employer is then matched by the employees agreeing to be flexible in other areas, such as working arrangements, working hours, etc.

In the past, Flex Plans in companies could be used as the basis of entitlement to shares under an approved Profit Sharing Scheme. However, arising from a review of the these type of plans, it is Revenue’s view that bonuses from Flex Plans cannot be used as a basis of entitlement for approved Profit Sharing Schemes.

With effect from 1 January 2004, the Revenue Commissioners will not approve Profit Sharing Schemes which include Flex Plans as a basis of entitlement.

Approved Profit Sharing Schemes currently using Flex Plans as a basis of entitlement may continue to do so until 31 December 2004. With effect from 1 January 2005 a new basis of entitlement to benefits must be established and approved by the Revenue Commissioners.

Previous Articles on approved Profit Sharing Schemes are contained in Tax Briefing Issue No’s 20, 38, 40, 46 and 54.