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August 19, 2019

Federal Government Proposes Changes to How Employee Stock Options are Taxed

Authors Brandin O'Connor and Kenji Nuhn

On June 17, 2019, the federal government announced draft legislation that will change how employee stock options are taxed. Employers that are Canadian-controlled private corporations (“CCPCs”) will not be subject to the new rules. As well, certain non-CCPCs that meet “prescribed conditions” will also not be subject to the new rules. The government is consulting on what these conditions will be, but they are expected to capture emerging companies.

In the result, corporations that do not fall under those two (2) exceptions and grant stock options to employees on or after January 1, 2020 will be subject to the following rules:

  • Preferential Tax Treatment – Through the current employee stock option deduction, the benefit from qualifying employee stock options is effectively taxed at the same rate as capital gains (50%): a rate lower than for ordinary employment income. Previously, there was no limit to this preferential tax treatment for income received through stock options. The draft legislation introduces a limit of $200,000 (valued at the time of granting) on the amount of employee stock options that may vest for an employee in a year and continue to qualify for the stock option deduction. An option vests when it becomes exercisable. Gains on stock options that exceed the $200,000 limit will be treated as a taxable employment benefit. The employee stock option benefit is still taxed in the year the option is exercised.

  • Employer Tax Deductions – When an employee is granted stock options in excess of the $200,000 annual limit, the employer may be entitled to a tax deduction for the stock option benefit included in the employee’s income. Alternatively, the employer may designate stock options that are ineligible for preferential tax treatment, making them eligible instead for a deduction for corporate income tax purposes.

  • Employer Notification Requirements – When an employer grants stock options to its employees, the employer will be required to notify those employees and the Canada Revenue Agency in writing whether those options are subject to the new rules.

The federal government introduced these changes as it was concerned that the current rules benefit the executives of “large, long-established, mature firms.” The cap is designed to limit the preferentially-treated income that those individuals receive, while recognizing that stock options are a method of compensation for small businesses and start-ups.

For more information, please see: Backgrounder: Proposed Changes to the Tax Treatment of Employee Stock Options.

The foregoing is for informational purposes only, and should in no way be relied upon as legal advice. For legal advice tailored to your circumstances and business, please contact any of SOM LLP’s lawyer’s by email or telephone.

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