# Key Post: Share options, BIK and huge losses



## Brendan Burgess (25 Nov 2002)

In July 2000 I left my old job and exercised all vested stock options I had. The shares were at $80 and rising and got to buy them for $15. It was my understanding (misguided) that any benefit in kind tax didn't have to be paid until I sold the shares or for 7 years whichever came first. Then arrived the letter from the revenue this week. Apparently the 7 year rule is only an option and I have to inform the revenue that I am taking it. Of course its too late now to take up the option. This leaves me with a hug bill including a 10% penalty for not making a return despite me thinking I didn't have to make a return until 2007. The shares have gone down in value so much that if I sold them I would only have about 1/20 of the tax bill. There is no way I can come even close to getting this money. I never made 1 cent with those shares but I still have to pay tax of nearly 20,000 Euro. I have very little savings as I am fairly young and spent most of my savings on various problems with my teeth earlier this year. All I have is some First Active shares I got for free when they went public. If I sell them I will need to pay some sort of tax on those also. I also have a few vodafone shares. I bought 1500 worth if Eircom shares when they went public. What options if any do I have?

_Edited by ClubMan to fix formatting._


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## ClubMan (25 Nov 2002)

*Re: Share options, BiK and huge losses*

As far as I know normally stock options are taxed as follows:

Income tax on market price on day of exercise minus the option exercise price (in this case $80 - $15  = $65 per share) and Capital gains tax the gain (if any and less the usual annual CGT exemption) calculated as market price on day of disposal minus market price on day of exercise (not applicable in this case since the shares are still held)

However there may be some option/scheme for deferral of the first tax under this "7 year rule" mentioned above but any (IT company) employee stock option/purchase plan (ESOP/ESPP) I've participated in didn't qualify.

Unfortunately, it's unlikely that the Revenue are mistaken in presenting you with a tax bill in this case. However, if you are unable to pay it immediately in full then they may be able to collect it in a manner more suitable to you (e.g. as an adjustment to your tax credits over a few years for example). 

If you sell the First Active shares now then I believe you will be liable for CGT on the total proceeds (less your annual CGT allowance) since the shares were acquired at no cost.


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## rainyday (25 Nov 2002)

*Re: Share options, BiK and huge losses*

There are three options when exercising share options, all of which have different tax impacts. The examples below assume that the option scheme is not one of the small number of Revenue-approved option schemes which are subject to more favourable treatment. Let's assume that the questioner had 100 vested share options.

1) Exercise & sell - the option is exercised and the shares are immediately sold, resulting in a tax gain. The gain is subject to income tax at your marginal rate, as per any non-PAYE income.

2) Exercise & hold - this is where the option is exercised, and the recipients funds the option price to buy the shares outright. So he has 100 options at $15 to buy shares valued at $80 at that time. He pays over the €15 x 100 ($1500) and gets his 100 shares. In this case, the tax due can be deferred to either 
- 31st October in 'year of assessment' following 'year of assessment' in which shares held are subsequently sold, or
- 31st October in year of assessment following year of assessment which falls 7 years after year of assessment in which options were exercised.

Simple, ain't it.

3) Exercise & sell to cover - this is a 'middle ground' whereby the recipient avoids handing over any cash, but keeps as many shares as he can. In this case, by exercising his options, he makes 100 x ($80 - $15) = $6500. He then uses this to buy shares at the current rate to hold 81 shares. He then gets to defer 81% of his gain as per option 2above, and 19% of his gain is treated as per option 1 above.


I'm not aware of any particular requirement to 'inform' the revenue that he is taking up the seven year deferral option. The advice from our tax advisors (Big Five firm) is that when exercising & holding, the income does not need to be included a tax return until the year after the shares are sold, or after seven years. Perhaps some strong negotiation with Revenue (who now have a specialised Share Options unit) might result in a positive outcome.

Whilst it may seem harsh to have any tax due in the case where there is an overall loss, it's not strictly accurate for the questioner to say that he never made a bean from his options. In strict terms, he got a substantial gain when he exercised his options, and then he chose to stay in the market by holding his shares. The fact that he then lost money by staying in the market doesn't eliminate the tax due on the initial gain. The only good news is that his capital loss on the shares can be used to write off any other capital gains on other shares or assets, now or in the future.


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## Brendan Burgess (27 Nov 2002)

*Re: Share options, BiK and huge losses*

Thanks Lads

This seems to be a case of exercize and hold, so the other choices are irrelevant.



> Exercise & hold - this is where the option is exercised, and the recipients funds the option price to buy the shares outright. So he has 100 options at $15 to buy shares valued at $80 at that time. He pays over the €15 x 100 ($1500) and gets his 100 shares. In this case, the tax due can be deferred to either
> - 31st October in 'year of assessment' following 'year of assessment' in which shares held are subsequently sold, or
> - 31st October in year of assessment following year of assessment which falls 7 years after year of assessment in which options were exercised.



From reading the letter, it seems that he still holds the shares. In this case, he won't have to pay tax for 7 years, unless he sells them before that? 

Could the fact that he has already left his employer have anything to do with it? 

He doesn't appear to have to claim this option, so it looks as if the tax bill is wrong. 

Rainyday, do you have the number in the Revenue Office which deals with share options?

*The right strategy for those with worthless shares*
If you hold worthless shares which you acquired by exercizing options, you should not sell them for 7 years. This will defer your tax liability as long as possible. 

If you have other shares as well, you should probably hold onto them, so that you won't have to pay CGT on their disposal. 

*The tax calculation*
How is the tax due calculated? Presumably there is BIK on $6,5000 ( 100 x $80 - $15) notional income?

Brendan

_Edited by ClubMan to fix ezCode formatting._


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## US (27 Nov 2002)

*Share options, BiK and huge losses*

The fact that he has left his employer does not alter his tax position.

Surrendering or abandoning a valuable option, or simply letting it expire without exercising it, attracts the same tax as exercising it.  If, arising out of my employment, I have an immediate and absolute right to buy a share now worth $80 for $15, I have received a right worth ($80 - $15 =) $65, and I am liable to income tax on that amount.  This is true whether I exercise the right or not.

The safest course is always to exercise a valuable option at the first opportunity, and then sell sufficient shares to pay the tax bill (or, if you have the funds available, set aside a sum to pay the tax bill in seven years time).  Never rely on the future sale proceeds to pay the tax bill, as they may not be sufficient.


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## ClubMan (27 Nov 2002)

*Re: Share options, BiK and huge losses*

*Surrendering or abandoning a valuable option, or simply letting it expire without exercising it, attracts the same tax as exercising it.*

Is that definitely true? I didn't believe that this was the case.


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## rainyday (27 Nov 2002)

*Liability*

Hi US



> I have an immediate and absolute right to buy a share now worth $80 for $15, I have received a right worth ($80 - $15 =) $65, and I am liable to income tax on that amount.



How does this work in the case of an option that has a few years left before it's expiry date. Let's say I have one option today - immediate and absolute right to buy a share now worth $80 for $15. But I'm confident   that the share will rise to $100 within two years, before the option expires. When does the tax liability arise - today, or when I exercise it, or when it was granted, or... What price is the liability based on?

I understood the liability always arose at the time the option was exercised.

Regards - RainyDay


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## US (27 Nov 2002)

*Tax on options*

Sorry, I should have been clearer.

Tax arises when the option is (a) exercised or (b) assigned or released.  In both cases the charging section is the Taxes Consolidation Act 1997, s128(2).


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## ClubMan (27 Nov 2002)

*Re: Tax on options*

If there are options which are vested but the employee never exercises them (possibly leaving the company in the meantime) surely there is no tax liability since the employee is never the beneficial owner of the shares nor has s/he gained financially from the option to purchase shares under the ESOP?


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## Brendan Burgess (27 Nov 2002)

*Re: Tax on options*

I checked with the Share Options Person in the Revenue ( Patricia Fitzgerald on 647 0710).

The situation is very clear. If you want to avail of the 7 year deferral, you must elect to do so by the Return Filing Date for that year.

So my friend sold his shares in 7/2000. This was the tax year ending 5/4/2001. The tax return should have been filed by 31/1/2002 and the election to defer should have been made by that date. 

There is a question on Form 11 and Form 12 asking if you want to avail of this 7 year deferral. 

That is the law - end of story.

My advice to the person would be to apply to his tax inspector immediately to make a late election. The Inspector probably won't grant it,but it's worth trying. 

If the late election is not allowed, then they will have to agree some way of paying the tax over the coming years. 

Brendan


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## US (27 Nov 2002)

*Tax on options*

I don't gain financially if I burn the banknotes with which my employer pays my wages, but I'm still taxable on them.  Similarly if I fail to cash my wages cheque.

If the option has vested and is exercisable but the employee allows the exercise period to pass without exercising it, he is still taxable (assuming the option has any value, of course).  

Why?  Because section 128(2) says so.  Why does it say so?  Probably because the presumption is that nobody gives away a valuable right for nothing - almost certainly the employee releases his option as part of a larger transaction whereby he receives something of equivalent or greater value.  Even if this is not the case, the fact remains that the employee has received a valuable perquisite.  The fact that he chooses not to exploit it for his own benefit does not enable him to avoid tax on it.  If my employer provided a car which I never drove I would still be taxable on it in the usual way.


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## ClubMan (27 Nov 2002)

*Re: Tax on options*

If that's the letter of the law then so be it. However it still doesn't make sense to me. Say I have options to buy shares at €1 each and they all vest today. However the market value is €0.50 so I figure there's no benefit in me exercising the options and let them lapse (perhaps leaving the job in the meantime - but I don't think that, in itself, is significant). Do I get an income tax credit for the loss I haven't incurred? If not then why am I taxed in a benefit I don't obtain if the market price exceeds the option price?


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## US (27 Nov 2002)

*Tax on options*

The benefit is not the money you get from the option - remember, you may get no money if you exercise and hold, and the shares fall in value, but tax is undoubtedly due in that case.  

The benefit is the option itself, and the tax is based on the value of the option.  The option can never have a value of less than zero (because you cannot be obliged to exercise it if it is "underwater"), so you will never get a tax deduction.  But it can be worth more than zero, in which event you will be taxable on the value.


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## rainyday (27 Nov 2002)

*Options*

Hi US

Just out of academic interest, what date/valuation would be used to calculate the liability in the case of an option which the recipient chose NOT to exercise?


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## rainyday (27 Nov 2002)

*Options*

Brendan - Are you certain he did an 'exercise & hold'? If he did an 'exercise & sell to cover', he would could still be holding a proportion of the shares.


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## clareman (27 Nov 2002)

*Tax on options*

Hi,

I am the person who sent this question in the first place. Thanks for all the help from you guys. 
To answer the previous question I did an exercise and hold. 
I will know in future to sell enough to pay the tax and keep the rest if I am indeed keeping them. 
I had hoped to pay the tax in 2007 with the proceeds of my SSIA. A well, I suppose I will have to do some deal with the revenue or get a bank loan.

Another share option tax question, does anyone know the BIK liability for share options in a private company? If I have options at say 20c but after the last funding round they are worth more than that. If I were to exercise these would I have to pay BIK based on the current private price? I ask because I am not sure if share options in a private company is really a benefit as one cant sell the shares once they are exercised, only hold them and hope for a buyout or IPO? I presume if one waits for a buyout or IPO there will be BIK based on the price of the shares at that stage, thus making exercising earlier than the IPO more attractive. Complicated stuff.

Thanks again


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## Dearg Doom (28 Nov 2002)

*Re: Tax on options*

US
   Can you clarify what is meant by 'assigned or released'? If I'm granted options that vest monthly over a long period of time, I can see how a tax liability occurs when I exercise the option as I have realised a gain. Are you saying that there is tax liability when the options are granted? Or vested? Or any other time before I exercise the options?

DD.


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## US (28 Nov 2002)

*Technical term or typo?*

Um . . . neither, really.  "Clog" is the shorthand that some practitioners use to refer to a restriction on disposal.

"Clog" was originally a block or weight attached to an animal's leg to hinder movement.  From that it came to mean any obstruction or hindrance, and eventually it got applied to a wooden shoe.

In this context it means a rule or obligation which prevents the shareholder from selling his share.


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## Brendan Burgess (28 Nov 2002)

*Re: Options*

Hi Rainyday

He got a tax bill which he wasn't expecting. If he had sold the shares, he would presumably have been expecting a tax bill. 

He says he never made a penny on the shares, so it sounds as if he didn't sell any of them.

I have emailed him to clarify these questions.

"Exercize and sell to cover" is presumably not a tax concept or tax option? Presumably it is a strategy to realise some gains. If you elect on time, presumbably you won't be paying the balance of the BIK for 7 years. 

Is there any situation in which you would not elect to defer the BIK for 7 years? Why would you pay something now, if you didn't have to pay it for 7 years? I presume that there is no extra to pay in 7 years time?

Sounds like a pre-budget submission point to me. Get rid of the need to elect. Most people wouldn't be informed enough to elect in time. 

Brendan


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## rainyday (28 Nov 2002)

*Re: Tax on options*

Hi Brendan - It's possible that someone could 'exercise & sell to cover' without being really conscious of the fact that they were selling some shares - They would never get any cash from the sale, as it goes to fund the purchase price of the remaining shares. If someone told their broker 'I want to exercise this option & keep as many shares as possible', the broker would do an 'exercise & sell to cover'.

I'm not sure if this concept is covered in the tax legislation (US - jump in here?) - it was one of the three options explained to us in the presentation from a Big Five personal finance expert. The requirement to 'elect' wasn't highlighted in the presentation, so that gives me a nice question to ask at next years presentation.

I agree that it would be a useful suggestion for a pre-budget submission. I'd imagine that the reason Revenue want you to 'elect' is to get the fact that you've exercised onto their records, so they are able to follow up with you in future years.


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## US (28 Nov 2002)

*Tax on options*

_“. . . what date/valuation would be used to calculate the liability in the case of an option which the recipient chose NOT to exercise?”_

The chargeable event is the assignment or release of the option.  I think that means that the relvant date is the date on which the opportunity to exercise is lost.  So if I have an option which is exerciseable any time between now and 31 December 2004, and I do not exercise, I have released the option on 31 December 2004 and the charge to tax will be based on the market value of the shares on that date.

_“. . . does anyone know the BIK liability for share options in a private company? . . .”_

The rules are the same as for a quoted company.  What matters is the value of the shares on the date the option is exercised or released.  The Revenue has a share valuation section which does little else but determine what the value of shares in a private company are at any given date.  Strictly speaking this is a matter between the indivdual taxpayer and the Revenue, but in the context of an employee sharee scheme the employer will usually approach the Revenue and get a determination as to the value of its shares on behalf of all the optionholders who exercise or release on a given date.

_“. . . Can you clarify what is meant by 'assigned or released'? If I'm granted options that vest monthly over a long period of time, I can see how a tax liability occurs when I exercise the option as I have realised a gain. Are you saying that there is tax liability when the options are granted? Or vested? Or any other time before I exercise the options? . . .”_

So long as the option must be exercised, if it is exercised at all, within seven years of the date of grant, there is no charge to tax on the date the option is granted.  There is no charge to tax on the date the option vests.  There is a charge to tax on the date of exercise or, if you do not exercise, the date of assignment (i.e. when you transfer the option to someone else, where this is possible under the rules of the scheme – it usually isn’t) or the date of release (i.e. you give up the right to exercise the option at all).

_“. . . 'exercise & sell to cover'  . . . I'm not sure if this concept is covered in the tax legislation . . .”_

Not explicitly, but it doesn’t need to be.  The ordinary rules cover it.

Suppose I have an option to buy 100 shares at €1 each.  The market value of the shares is €5.  My marginal tax rate is 20%.

I exercise the option over all the shares.  My tax bill on exercise is 100 x (€5 - €1) x 20% = €80.

I immediately sell 16 shares for €80.  I am treated for CGT purposes as having acquired the shares at the market value of €5 each, so I have no gain.  I use the sale proceeds to pay my tax.

I am left holding 84 shares, which for CGT purposes I am treated as having acquired for €5 each.  When I sell the shares later on, this will be my acquisition cost for the purposes of calculating any gain.


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## millix (28 Nov 2002)

*share options BIK and budget 2003*

Share options will get even less attractive as a result of the budget, now it looks as if PRSI and health levy will be applied after 2004 - not sure how this will work in practise - will be PRSI be deducted at the time the option is granted, vests or is exercised ? 

so much for tech friendly tax policies - the 20% CGT concession was so restrictive that very few companies qualified, and now this latest stunt from MacCreevy

I'm sick of tech stocks, options, ESPP, APSS, SPP and all that other stuff ...

Millix


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## Brendan Burgess (28 Nov 2002)

*Re: Tax on options*

Hi Rainyday

I would not wait until next year's presentation. Any of your colleagues who exercized options in the short tax year, should have made this election by the end of October last. I suspect that if they make a late application now, it would be accepted. You could save a lot of your colleagues a lot of money if you spread the word now. 

I think you should also check with the tax advisor about this election. If someone as switched on as yourself doesn't know about it, you can be pretty sure that very few of your colleagues know about it. It obviously was not highlighted.

Brendan


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## rainyday (30 Nov 2002)

*Re: Tax on options*

Just got the full contact details from Revenue for their 'options' dept.

The Revenue Commissioners,
Office of the Chief Inspector of Taxes,
Employee Share Scheme Section,
Setanta Centre,
Nassau Street,
Dublin 2.
Telephone : 01 6470710/6716777
Facsimile : 01 6716668


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## ClubMan (30 Nov 2002)

*tax on stock options - today's examiner story*

In today's examiner there's a story by Andrew Guerin ( aguerin@indigo.ie, tax advisor, www.aguerin.ie) that suggests that further changes will be introduced in the budget to the way in which stock options are taxed in addition to the possibility of deferral for 7 years - this is in the context of individuals who have found themselves with a large tax bill and no means with which to pay it - he suggests that further changes are necessary to ensure that such individuals won't become bankrupt. However Andrew draws back from being a little more specific - 17 years deferral ? tax amnesty for tech employees who got burned in the tech crash ? taxation of options at CGT rate .... that would be a good one ...

_Edited by ClubMan to fix links._


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## Me (2 Dec 2002)

*locked in*

Just wondering what happens when, as was with a lot of the tech share option schemes, you aren't allowed to sell the shares for 3 or 5 years after buying them?
In many cases, after this period the shares had bombed so is it still possible that you could be taxed on a gain that you never had an opportunity to realise?

Also how does this fit into CGT, can you claim a loss of the difference between market value at the time you exercised and the price you sold at and apply this against other gains? Or can you only use the price you bought at?


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## US (2 Dec 2002)

*Locked in*

If you acquire a share which is subject to a clog on disposal for a period, then the market value of the share is reduced.  This reduces the tax liability, but tax is still due.  It can be deferred for up to seven years in the usual way.

For CGT purposes you are treated as having acquired the share at the market value used to assess you for income tax.  If the value of the share subsequently does down and you dispose of it, that generates a loss which can be set against other chargeable gains (but not against income).


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## ClubMan (2 Dec 2002)

*Re: Locked in*

*subject to a clog *

Is this a technical term or a typo?


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## Brendan Burgess (3 Dec 2002)

*Re: Tax on options*

Hi US

Just to clarify this exercize and hold idea. Taking your example:



> Suppose I have an option to buy 100 shares at €1 each. The market value of the shares is €5. My marginal tax rate is 20%.
> 
> I exercise the option over all the shares. My tax bill on exercise is 100 x (€5 - €1) x 20% = €80.
> 
> ...



This guy owes €80 income tax on exercizing 80 shares. 

He must pay €12.80 ( €80 * 16/100)  by the 31 October 2003, the date of his return. 

He can defer the balance for up to 7 years.

So it should be called "exercize and hold and opt to defer".

_Hi US - on rereading the thread, I see that you have already covered this point about selling enough to cover your tax liability in 7 years time_

Brendan

_Edited by ClubMan to fix ezCode formatting._


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## Brendan Burgess (3 Dec 2002)

*Re: Tax on options*

Hey Clubman

What did you do with my formatting????

Brendan


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## ClubMan (3 Dec 2002)

*Re: Tax on options*

I fixed it - you broke it again (posting with ezCodes disabled perhaps) and I fixed it again this morning!


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## piercewhelan (4 Dec 2002)

*BIK and CGT*

If anything comes up in the budget on this then please post it here, this is a very interesting discussion and one that is dear to the hearts of myself and a lot of my colleagues at the moment

On the calculations by US: it is assumed that the BIK is taxed at the lower rate 20%. I imagine most people in this situation would be on the higher rate of 42%, so you would have to sell 34 shares to cover the tax (in fact if you weren't then this transaction would most likely push you into it).

Another issue also crops up and I wonder does anyone have the answer. The origional query was about dollar shares, what exchange rate does the revenue use when no actual transaction has been done back into euros.

Keep up the good work and looking forward to the submissions to the Budget 2003 topic.

Pierce


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## clareman (5 Dec 2002)

*BIK and CGT*

Hi,

The revenue use the exchange rate between the Dollar and the Euro ( depending on the year, via Irish Punts) on the day you exercise/sell.


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## rainyday (5 Dec 2002)

*Re: BIK and CGT*

I don't think it's quite that simple Clareman. I think you have a few options. Revenue do publish a rate for each year which can use. Alternatively, you can use a spot rate for the day of the transaction, or the actual rate you recieved. 

I understand that Revenue expect you to be consistent from year to year, i.e. whichever method you choose in your first year, you have to stick to it.

Regards - RainyDay


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## clareman (5 Dec 2002)

*Bik*

When the revenue sent me the bill, they used the exchange rate of each day of exercising


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