What are the tax implications of employee stock options?
Many companies offer employee benefits to help attract, motivate or keep employees. Stock options offer the employee more involvement, ownership and investment in their place of work. Below is a discussion of tax implications on employee stock options.
We will be discussing tax implications and options available to employees of Canadian Controlled Private Corporations (CCPC—see Tax FAQ #13 for details on CCPCs).
The to key areas where tax implications occur are:
Initially, when an employee exercises a stock option there is an employee benefit that is taxable to the employee, and later, when the employee eventually sells the stock, a capital gain or loss occurs and is taxable to the employee.
The following are tax options available to employees of CCPCs:
- At the initial exercise, the employee benefit arising due to the difference between the fair value of the stock at the exercise date and the option price does not get included on the employee’s personal tax return until the year the employee sells the stock. This allows for a deferral of the benefit until the employee has the cash from the sale of the stock to pay the additional tax on the benefit.
- The taxable benefit from the initial exercise is reduced by half if the stock option was “out of the money” when they were granted to the employee by the company. This means if the share price when the option was granted is less than or equal to the exercise price there was no benefit of the options at the time they were granted. If the stock option was “in the money” (meaning the share price was greater than the exercise price when the options are granted) and the employee holds the shares for two years or more before selling them, the benefit is also reduced by half.
- The last option is regarding the capital gain on the eventual sale of the shares. The gain from the price at exercise to the price at sale may qualify for the Lifetime Capital Gains Exemption. If the employee is a Canadian resident and the sales are from a qualified small business corporation (see FAQ #15) and tax exemption of up to $750,000 ($800,000 as of 2014) on the sale of such shares would apply.
If you are interested in offering stock options to your employees, please contact us to discuss the potential tax relief available to your employees.Download a copy of this issue