Principal Issues: [TaxInterpretations translation] 1. In the context of exercising stock options, what does the CRA consider as a reasonable method for withholding tax? 2. Under different scenarios, is the employee entitled to a deduction under paragraph 110(1)(d), and if so, to what amount? 3. Would granting a redemption right to the employer result in the shares becoming non-prescribed under the definition in ITR subparagraph 6204(1)(a)(iv) and paragraph 6204(1)(b)?
Position: 1. and 2. We are currently analyzing that issue. Consequently, although we are aware that in such situations the employer must find a solution to ensure compliance with its obligation to withhold and remit source deductions, it would be premature to make determinations on specific situations as long as our analysis has not have been completed. 3. Yes, under the wording of those provisions.
FEDERAL TAX ROUNDTABLE 7 OCTOBER 2011
2011 APFF CONFERENCE
5. Withholding tax on stock options
Subsection 153(1.01) came into effect on January 1st. Taxable benefits related to the exercise of stock options must be subject to withholding tax despite administrative positions taken by the CRA in the past.
This new legislation has led to various questions on its implementation.
5.1 The only income for an employee
The only income of an employee in a calendar year is related to the exercise of stock options. In addition, the employee has decided to retain the shares acquired on the exercise of those options. There is no mechanism in place under the stock option program for payroll deductions to be made.
Question to the CRA
In this situation, what does the CRA consider to be as reasonable method for withholding tax?
CRA Response
We are currently analyzing this issue. Consequently, although we are aware that in such situations the employer must find a solution to ensure compliance with its obligation to withhold and remit source deductions, it would be premature to make determinations on specific situations while our analysis has not have been completed.
5.2 Net issuance of shares
In order to make such deductions, some employers have considered issuing a smaller number of shares to their employees to take source deductions into account. The employer would use its own funds to pay source deductions to the CRA.
To do that, stock option agreements should be amended to give that right to the employer. That right would only be for source deduction purposes.
Questions to the CRA
A) Where the employer issues a net number of shares so as to result in the employee receiving shares with a value equal to the market value of the securities, minus the exercise price and withholding tax, is the employee entitled to a deduction under paragraph 110(1)(d), and if so, to what amount?
B) Where the employee pays the exercise price of the options and the employer issues a net number of shares resulting in the employee receiving shares with a value equal to the market value of the securities minus the source deductions, is the employee entitled to a deduction under paragraph 110(1)(d), and, if so, to what amount?
Assume that all the conditions are satisfied to receive the deduction under paragraph 110(1)(d).
CRA Response
As stated in response to the previous question, we are currently unable to answer these questions until our analysis has been completed.
5.3 Redemption of shares
In order to effect such withholding, certain employers have certain shares redeemed immediately following the exercise of the options for proceeds of disposition to cover the deductions to be made.
To accomplish this, stock option agreements would have to be amended to give the employer the right to redeem the shares in part. That right would be limited for withholding purposes only.
Question to the CRA
Would granting a redemption right to the employer result in the shares ceasing to be prescribed shares as defined in ITR subparagraph 6204(1)(a)(iv) and paragraph 6204(1)(b) so that, as a result, the employee would lose the 50% paragraph 110(1)(d) deduction from the taxable benefit relating to the exercise of stock options in computing the employee’s taxable income?
CRA Response
We are of the view that a share issued under a stock option agreement that grants the employer a right to purchase for cancellation the shares issued under that agreement would not be a prescribed share by virtue of ITR subparagraph 6204(1)(a)(iv) and paragraph 6204(1)(b).
Isabelle Landry
(450) 623-0193
October 7, 2011
2011-041195