A Note on Share Schemes in the Irish Tax System

Employers in Ireland are looking towards more innovative ways of retaining key individuals within the business. Fintech financial services payment processing companies and cryptocurrency companies in particular, face the real challenge of offering attractive remuneration packages that are competitive with the many large multinationals now operating in the local market. Such start-ups often have difficulty matching multi-national salaries on monetary terms. Employee equity participation can be an important factor in contributing to the success of start-up Fintech companies operating in a very competitive market. Not only does it bridge the gap between salary offerings made by more established market participants and start-ups in the financial services sector it also facilitates “buy-in” by key employees in such financial services start-ups.

A study on the promotion of employee ownership and participation prepared for the European Commission’s Directorate-General for the Internal Market in 2014 states:

“Thirty years of research have confirmed that companies partly or entirely owned by their employees are more profitable, create more jobs and pay more taxes than their competitors without employee ownership. At the macroeconomic level, EFP leads to higher productivity and, therefore, higher competitiveness and growth as well as strategic stabilisation of ownership. At the company level, it can contribute to solving problems such as absenteeism, labour turnover and the retention of key employees, as well as business succession and funding, especially in SMEs and micro-enterprises.”

Involving employees in the ownership of the business has been proven to create growth for the company and assist in retaining key staff. As a result, employees are motivated to help the company grow, thus increasing the value of their investment in the business. Whether the business is a start-up, an established, growing business or undergoing a merger, acquisition or sale, the objectives of the company to retain and reward key employees are often the same.

What Are the Tax Benefits of a Share Scheme?

For many employers, the tax benefits of an incentive plan are not the sole driver. Where large numbers of employees are involved, simplicity is often key. For SMEs and start-up companies wishing to incentivise a small number of key employees/managements, equity plays a vital role in incentivising these individuals.

Key employees can make a real difference to the bottom line and having ownership in the business can be a significant incentive to drive the business forward. Obtaining beneficial tax treatment for such a share plan (i.e., CGT rather than income tax) may also be an important feature.

For individuals who participate in equity plans, it is usually possible to achieve CGT treatment on a disposal of their equity to a third party; currently, the rate of CGT is 33%. However, there are some situations where this can be difficult to achieve – see the anti-avoidance provisions below. A reduced CGT rate of 10% can be applied to the first €1m of gain where the individual qualifies for entrepreneur relief (ER). However, it can be difficult for the individual to meet the qualifying ER criteria due to the requirement to own 5% of the ordinary share capital over the qualifying period. Although an employee may be given a 5% shareholding at the outset, often the introduction of new equity investors as companies move through to equity raising rounds of investment, dilution occurs and causes such employees to no longer to meet the qualifying criteria.

From the employer’s perspective, in addition to the commercial benefits mentioned previously, if an equity plan is established, an employer PRSI saving of 11.05% can be achieved where the conditions for PRSI exemption on share-based remuneration are met. It is worth noting that the PRSI exemption should be applied only where the employee receives shares in the company in which he or she is employed or in a company that has control of the company in which he or she is employed.

Where a cash bonus or shadow share plan is proposed, the value received by the individual will be subject to income tax under PAYE. Although there may be good, solid commercial reasons for implementing such a plan, they are generally subject to tax rates in excess of 50% plus employer PRSI of 11.05%.

One such Share scheme which is popular in Ireland and has a tax saving attached is the Restricted Share Scheme.

Restricted shares

Restricted shares are also often referred to as “clogged” shares and are dealt with under s128D TCA 1997. This section provides for a reduction in tax payable on the award of free shares, or shares awarded at undervalue, provided certain conditions have been fulfilled.

Under such schemes, shares are typically acquired by an EEA trust, although Revenue can accept other methods for holding shares, such as a secure brokerage account.

Under a written agreement entered into at the time of acquisition, the employee agrees to a “restriction on the freedom... to assign, charge, pledge as security for a loan or other debt, transfer, or otherwise dispose of the shares for a period of not less than one year”.

This restriction reduces the amount chargeable on the exercise of a share option or the vesting of an RSU (where the share is restricted) and a share award.

An employee would otherwise be charged to income tax, USC and PRSI on the market value of the share award less the amount paid for the shares. The chargeable amount is reduced depending on the period of the restriction.

It is current Revenue opinion that the restricted period must be mandatory and imposed by the company. Revenue will accept that some shares may have to be sold by the employee to fund the upfront tax liabilities. The tax relief afforded by s128D does not apply to these unrestricted shares.

The capital gains tax (CGT) base cost is the amount brought into the charge to tax where the shares are from an issue of shares. Where the shares are already in existence, the base cost is the pre-abated market value.

On sale of the shares, the gain made by the individual should be subject to CGT at the prevailing rate, currently 33%.

A restricted share scheme is often implemented for key employees or directors where the employer wishes to reward the individual with “free” shares, but the upfront value of the shares is high and the company would therefore like to suppress the tax cost on acquisition of the shares.

This is worth reflecting that “Clogged share scheme” gives employers an opportunity to reward Key employees. So, it is a very useful staff retention tool particular for a start -up that needs to lock in key workers for initial five year start up.

Restricted Stock Units (RSU)

An RSU is a promise to receive shares or cash to the value of those shares in an employer or related company at a future date.

There is often a delay between the date of grant and vesting e.g. a time-based restriction, where the employee must stay in employment for a stated period or on the happening of an event, such as the company raising external equity or there is an IPO. The units are often forfeitable or cannot be sold prior to vesting.

There is no specific Irish legislation covering RSUs however Revenue have issued Tax Briefing 63 to set out their view of the tax treatment. Revenue state that the RSUs do not become taxable until the earlier of the RSU vesting date or the date shares or cash are actually passed to the employee.

RSUs are fully taxable in Ireland if they vest at a time when the holder is Irish resident, without any apportionment by reference to any part of the vesting period during which the holder was resident elsewhere. If the RSUs vest and the holder is no longer Irish resident, the RSUs are not taxable in Ireland, regardless of the fact that the holder may have been resident in Ireland at the time of the grant. This rule could be useful, in particular, for employees in fintechs who are required to change jurisdiction because of the differing regulatory landscape/conduct of business rules within the various EU member states. However, it is important to note that RSUs awarded to a director in his/her capacity as a director of an Irish company who is not tax resident in the State at the time of vesting, are still fully taxable in the State at the time of vesting (subject to any relieving provisions of an appropriate DTA.)

Concluding thoughts

Share-based remuneration has become a very popular in Ireland, and in some cases a required, part of employee remuneration. Certain Irish schemes like the illustrated clog scheme can afford tax relief for employees. In most cases, there is no employer PRSI cost for the company. In designing a remuneration package to attract and retain employees it is important to consider the applicability and desirability of an equity offering.

If you wish to discuss these topics, please contact: Sabios, Dublin

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