Tax consequences of Employee Share Purchase Plans

• There are different types of employee share schemes (ESS) that your employer may offer. The tax treatment that applies will depend on the type of ESS.

• You can participate in as many schemes in an income year as your employer will allow. For example, you might be provided with ESS interests in an up-front scheme and ESS interests that are eligible for the start-up concession in the same income year.

Non-concessional schemes

• If you acquire ESS interests at a discount and the scheme, or your circumstances, do not meet the conditions for concessional treatment, the discount you receive is assessable in the year you acquire the ESS interest.

• ESS interests are treated as if they were provided from an upfront scheme - not eligible for reduction.

Concessional schemes (concessional tax treatment can apply)

If you acquire ESS interests under one of the concessional schemes, you can receive concessional tax treatment for your discount if you and the scheme meet:

• all general conditions for all concessional schemes

• conditions specific to the scheme and the particular ESS interests.

The general conditions include the ownership and voting rights test that applies to you.

Source: ATO

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Restricted Stock Units

Restricted stock units (RSUs) are offered by a company to their employees.

They are awarded as compensation for an employee’s performance or as a reward for the employee’s time in the company.

• The employee does not own the RSU until the end of a vesting period.

• Prior to vesting, the RSUs are a mere promise and do not provide the employee with any voting rights.

• You can choose to sell or hold the RSUs as soon as they become vested.

• To ensure the employee stays with the company, the vesting period may last years.

• The RSUs may be distributed under the vesting period according to a distribution schedule. For example, 1/5th of the total stocks may be distributed every year for five years. If the employee leaves the company in the fourth year, they will forgo 1/5th of the stocks that were bound to be vested in the fifth year. This gives an employee further incentive to stay with the company and perform well.

RSUs vs. Stock Options

RSUs must be distinguished from a stock option.

• A stock option is also a form of compensation given by a company to its employees.

• RSUs are a grant of actual stocks. As the company performs well, the employee benefits as well.

• In contrast, a stock option is an option to purchase a stock at a certain time and price. An employee may not even exercise a stock option or, if the company is bankrupt or liquidated, they may not be able to exercise their option.

RSUs and Taxes

Income Tax

• Once they are vested, the RSUs are considered an income for the employee.

• RSUs are valued at the market price of a stock for the company.

• The employee is required to record the income in their tax forms and pay an income tax on the RSU.

• Notably, it is possible that the income from the RSUs may push you into the next bracket for income tax which will increase your marginal income tax rate.

• To avoid the employee paying the tax from their personal funds, companies may withhold some stocks to cover the taxes.

In Australia, RSUs may be granted under the Employee Share Scheme (ESS). The ESS is a way for the employer to provide benefits to their employee through the grant of stocks. If RSUs are granted under the ESS, they are governed by the ATO rules on ESS.

Capital Gains Tax

• Capital gains tax is paid on RSUs when they are vested and eventually sold by the employee.

• There is no “rate of Australian CGT”. The net capital gain is included in the taxpayer’s assessable income and taxed along with their other assessable income at their marginal rate of tax. The top marginal rate of tax is effectively 47%, inclusive of Medicare levy. If you hold an asset for at least 12 months before you dispose of it, you will be entitled to the 50% CGT discount - so that only one-half of your net capital gain will be assessable.

• Companies and individuals pay different rates of capital gains tax. If you’re a company, you’re not entitled to any capital gains tax discount, and you’ll pay 30% tax on any net capital gains. If you’re an individual, the rate paid is the same as your income tax rate for that year. For SMSF, the tax rate is 15% and the discount is 33.3$ (rather than 50% as for individuals)

• There are various exemptions and concessions that may apply to the capital gains tax. Exemptions may be made, for example, based on how long the RSUs were held by the employee.

It is not difficult to sell RSUs as most companies that offer them have publicly traded shares on the share market. If the future of the employing company is uncertain, it may not be a wise decision to hold RSUs, so it may be better to sell most of the stocks to ensure compensation sooner rather than later. RSUs became a popular form of compensation because many employees suffered severe losses when they were unable to exercise their stock options as companies became bankrupt during the 2008 financial crisis. Selling RSUs will prevent a loss if the value of the company’s stock decreases. The employee can then use the profit to create a more diversified portfolio which will prevent overexposure in the company or the company’s sector.

Source: ATO

Have more questions? Get in touch to discuss your options.

4 steps to maximise the benefits you receive

Step 1: Think of employee shares as a long-term bonus that will be taxed. The majority of employee share schemes do not incur any tax when they are granted, which often generates considerable excitement for employees involved.

The bad news is that these shares will be taxed at your marginal tax rate when they vest or become eligible for sale. This can cause a significant problem as the tax liability won’t be known until you lodge that year’s tax return.

It could be over a year after the shares have been sold; the money may have been spent on holidays, renovations, paying off the mortgage, or investments.

You should therefore factor in losing half the value of your shares before you start thinking about how you spend the money.

Step 2: Consider selling a portion of the shares at vesting time

Most people on an employee share scheme have a 3- or 4- year vesting period and the tax is payable as the shares vest.

By selling some of the shares at vesting time, you will be able to cover the tax bill that you will soon receive and have some money left over to achieve the goals you’ve identified.

Proceeds from sales can also be used to pay off your mortgage faster or contribute extra to super by taking advantage of the $27.5k yearly concessional contribution and $110k yearly non-concessional contribution.

Tech stocks had an amazing run on the share market for many years until recently when many big companies have faced big declines due to rising inflation and interest rates.

Step 3

• Use the remaining sale proceeds to reinvest smartly

• With the additional money that you now have available, you can either pay down debt or invest in your spouse’s name inside a trust or even in superannuation.

• By doing this, you will build up your assets in a structure that can better protect you and structure future tax effectively.

Step 4

• Diversify to increase your chances of financial success

• Now that you have the money in the right investment structure, it is important to invest in the right asset allocation to significantly reduce your risk and improve the likelihood of achieving your financial goals.

• If you retained your company shares, you’d build up a massive risk that this one company will underperform or fail, thereby reducing your wealth significantly.

• Your income is already tied to your employer, so don’t tie your whole financial future to them as well!

Have more questions? Get in touch to discuss your options.