1. Introduction

eBrief 17/11 published on 25 March 2011 addressed the issue of allowing employers additional time to comply with their new universal social charge (USC) and PRSI obligations. This Tax Briefing relates to other aspects of the taxation and PRSI treatment of share-based remuneration.

2. Share awards

2.1 Notional pay – PAYE/PRSI

Subject to the ‘grandfathering’ arrangement for pre 1 January 2011 written agreements announced by the Minister for Finance on 14 March 2011 and the transitional arrangements outlined in eBrief 17/11, shares in an employee's employer company, or a company that controls the employer company (within the meaning of section 432 TCA 1997), awarded on or after 1 January 2011 have been brought into the PAYE collection system. They are to be treated in the same way as other perquisites. Thus, the “Benefit-in-kind frequently asked questions [FAQs]” document at www.revenue.ie will be relevant.

The net value of any shares awarded is to be treated as notional pay at the time the shares are given to the employee. If the calculated income tax and PRSI liability exceeds the employee's pay, the employer is obliged to account for and remit (in full) the total income tax and PRSI due on the combined actual and notional pay with the relevant monthly P30 return. The amount not deducted from the employee's pay or any ‘shortfall’ not deducted in the particular pay period may be recouped from the employee by collecting it over remaining pay periods in the tax year. The income tax paid on account by the employer at the time the benefit was provided must be recouped from the employee in full by March 31 of the following tax year, otherwise, the employee will be treated as having received a further benefit on the relevant 31 March equivalent to the amount of un-recouped income tax, and the employer must operate PAYE/PRSI on this further amount.

2.2 USC

From 1 January 2011, USC on the net value of share awards is also to be deducted and paid by employers through payroll.

2.3 Vesting of shares v settlement

The award of shares may be subject to a vesting period so that the employee may not actually take ownership of the shares until a specified period has elapsed (i.e. until the shares have vested). The employee effectively receives an entitlement to a future award of shares. A restricted stock unit is a case in point. Tax Briefing 63 (May 2006) set out the tax treatment of restricted stock units. The tax liability arises either on the date of vesting (rather than the date of grant) or on an earlier date if the shares or cash pass to the employee on that earlier date. However, there may be a further period between vesting and the actual delivery or settlement of the shares (known as a blocking or lock-in period). To give employees a chance to sell shares to fund their tax and PRSI liability, Revenue is prepared to postpone collection of the tax and PRSI until the date on which the shares are settled rather than the vesting date, provided that the settlement date is not more than 60 days after the vesting date. It should be noted that this 60-day extension is the outer limit allowed and does not apply where the actual settlement date occurs within a shorter period.

Income tax, PRSI and USC should be remitted with the P30 for the month following the month in which the settlement date (or the 60th day following vesting) occurs. However, this is subject to all remittances being made by the last P30 filing date for the particular tax year, i.e. by January 14 or 23, as appropriate. This may mean that tax in respect of shares that vest towards the end of a tax year may have to be paid before the settlement date.

In cases where shares have vested and an employee is ceasing employment with a company, income tax, PRSI and USC should be paid at the time of cessation of employment if this occurs before the settlement date.

The chargeable date for tax purposes remains the date of vesting. The date of valuation for the purpose of establishing the taxable amount in respect of the shares and the foreign currency conversion date will continue to be the vesting date.

The above treatment applies to office holders in the same way as it applies to employees.

2.4 Valuation of shares in private companies

Shares in a private company are not traded on a stock exchange and therefore do not have an objectively determined open market value. Where such shares are awarded to employees, the employer should make a ‘best estimate’ of the amount of notional pay to be charged to income tax, PRSI and USC. An employer will be regarded as having made a best estimate where a genuine attempt has been made to calculate the taxable benefit based on all of the information available to the employer at the time the shares are awarded.

While each valuation will be unique and will depend on the particular circumstances of the case, including the company involved, its business activity, the size of the shareholding, the rights attaching to the shares and the timing of the award, there are several widely accepted methods of valuation that are usually applied. Some examples include valuation based on dividend yield, earnings, net assets, cashflow and turnover. The valuer should choose the method(s) that best suits the circumstances of the case. In practice, it is common for a combination of methods to be used as this may provide a truer value.

Where a bona fide ‘best estimate’ is used and documented to show that all reasonable efforts were made to determine the taxable benefit for a tax year, the employer will not be required to make any adjustments after the end of the tax year. This is on the understanding that the ‘best estimate’ was calculated by reference to all relevant information available to the employer. In the case of a Revenue audit, an employer should be in a position to demonstrate that all relevant information was evaluated, the reasons for choosing the valuation method(s) used and the detailed workings of the valuation.

3. Share options

3.1 USC and RTSO

The taxation of gains on the exercise of share options comes within a special self-assessment regime, with income tax in the form of ‘relevant tax on share options’ (RTSO) payable within 30 days of an option being exercised. Employees who exercise share options are chargeable to tax under Schedule E but are ‘chargeable persons’ for the purposes of Part 41 TCA 1997 by virtue of section 128(2) and (2A) TCA 1997. However, the usual 31 October self-assessment preliminary payment date does not apply. Instead, section 128B(3) ‘substitutes’ a due date of 30 days after the exercise of an option. Employees liable to pay RTSO must then submit the usual self-assessment return containing details of any gains in a tax year by 31 October following the year in which the gains are realised.

By virtue of the new section 531AS(1) TCA 1997 (inserted by section 3 Finance Act 2011), in the case of an individual who is a chargeable person within the meaning of Part 41 TCA 1997, USC is “due and payable in all respects as if it were an amount of income tax due and payable by the chargeable person under the Income Tax Acts ”. Thus, the payment and collection of USC attaches onto whatever mechanism exists for income tax. This would generally be the usual 31 October preliminary tax payment and return dates. However, income tax on share option gains is, as stated above, subject to a special collection regime and is due and payable within 30 days of exercise. RTSO is merely the payment and collection mechanism for such income tax and not a different type of tax. Therefore, as income tax in respect of share option gains is due and payable within 30 days of an option being exercised, USC is also due and payable within the same 30-day period.

USC on gains made on the exercise of share options should be paid when the form RTSO1 is being returned to the Collector General and should be included with the amount of the RTSO in the “Total Tax Liability” box. Employees should not insert a separate USC amount on the form. The formula in section 128B(2) that incorporates the marginal income tax rate does not apply for USC purposes. However, as the RTSO is a self-assessment system, an employee has also to self-assess for USC. He or she should be in a position to know the appropriate rate at which USC is payable on share option gains within RTSO. Where an employee pays RTSO at the marginal income tax rate, the marginal USC rate of 7% should apply. When the Form 11 is subsequently filed, the employee should enter details of the amount of the gain and the amount of RTSO and USC paid with the RTSO1.

3.2 USC and 3% surcharge

For USC purposes, Revenue considers gains on the exercise of share options to be relevant emoluments and therefore not chargeable to the 3% surcharge.

3.3 PRSI

An employer who grants a share option to an employee and who still employs that employee when the option is exercised should account for both employer and employee PRSI as normal through payroll. The position outlined in paragraph 2.1 in relation to the payment of income tax and PRSI on notional pay will also apply in relation to the payment of PRSI by an employer where share options are exercised. Thus, an employer will have until 31 March in the following year to recoup any shortfall from the employee.

In limited circumstances, where recovery of employee contributions by the employer is not possible, for example, where an employee has ceased to be employed by the employer, different payment arrangements will apply when an option is exercised. Firstly, in these circumstances the employer may elect to pay the employer portion of PRSI only. A PRSI payroll subclass charging 10.75% ‘ER’ and 0% ‘EE’ will apply. When an employer uses this subclass, he or she will be required to notify PRSI Special Collections Unit. A special form will be created for this purpose. Secondly, the employee will have a liability to pay his or her portion of the PRSI Class A charge to PRSI Special Collections Unit. This arrangement should be transitional pending development for 2012 of the RTSO payment mechanism to accommodate the employee portion of PRSI.

Legislation in relation to these new arrangements will be included in the next Social Welfare Bill. Details regarding the PRSI subclass applying and the Special Collection form will be published on www.welfare.ie as soon as possible and will be e-mailed to the PRSI mailing list (subscribe at www.welfare.ie).

Note: Relevant contributions will not be awarded to the social insurance record of the employee until both the employer and employee liabilities have been paid.

4. Approved profit sharing schemes

4.1 Salary forgoing

Salary forgoing is not chargeable to USC or PRSI at the time that it is foregone. Instead, USC and PRSI is to be charged on the Initial Market Value (IMV) of the shares that are appropriated in lieu of salary forgone. However, where employers chose to do so, they may deduct and pay USC and PRSI when salary is forgoing. Shares cannot be appropriated in advance of salary forgoing to fund those shares.

4.2 Responsibility for deduction and payment of USC and PRSI

The employer is liable in the first instance for the deduction and payment of USC and PRSI. This should be done when funds are being given to the trustees to purchase shares. The chargeable value is the IMV of the shares that are to be appropriated to the scheme participants.

4.3 Limit on appropriated shares

It is not intended that the requirement to fund the payment of USC and PRSI should impact on the current annual limit on the value of shares that can be appropriated of €12,700. Employees/employers can pay USC and PRSI out of other non-share net earnings if they wish at the time that shares are being appropriated, or salary forgoing, as the case may be.

5. SAYE schemes

5.1 Charge on both grant and exercise

Section 531AM(1)(a) requires USC to be charged on both the grant of an option (where the market value is discounted) and the exercise of that option. In practice, this would result in a double charge on some of the gain. Revenue will only seek to collect USC and PRSI on the gain arising on the exercise of an option.

5.2 Payment of USC

Gains on the exercise of savings-related share options are brought within the definition of “relevant emolu-ments” for USC purposes. While such gains continue to be exempt from income tax, the employer is liable to deduct and pay USC through the payroll system when the options are exercised. However, the company operating the SAYE scheme will not be obliged to make such payroll deductions where the employee exercising the option has ceased to be employed by that company. Instead, USC will be payable by such former employees under the normal self-assessment system.

5.3 PRSI

The arrangements outlined in paragraph 3.3 in relation to the payment of PRSI on non-SAYE share option gains will generally apply in the case of SAYE share options. However, in circumstances where a former employee accounts for USC under the self-assessment system, his or her portion of the PRSI charge should also be paid under self-assessment instead of to PRSI Special Collections Unit.

5.4 Bonus/interest earned

Any bonus/interest earned in respect of an employee's savings is not chargeable to USC or PRSI, even where the savings are not used to exercise share options.

6. Forfeitable shares and refunds

Where shares are forfeited, any income tax charge already imposed in respect of the acquisition of the shares is to be reduced to nil and any tax overpaid is to be repaid on foot of an appropriate claim. USC and PRSI will similarly be repaid where shares are forfeited.

Source: Revenue Commissioners. www.revenue.ie. Copyright Acknowledged.