Oops, the French Did it Again……

Less than 18 months after the latest amendment to the regime for tax-qualified RSUs in France, another amendment became effective on December 30, 2016.  This amendment is the third amendment to the regime in five years, meaning that companies may (in theory) have to administer tax-qualified RSUs that are subject to three different income tax and social tax regimes.  The three different qualified RSU regimes are as follows:

  • French-qualified RSUs granted after September 28, 2012 (“Pre-Macron RSUs“)
  • French-qualified RSUs granted under a plan approved by shareholders after August 7, 2015 (“Macron RSUs“)
  • French-qualified RSUs granted under a plan approved by shareholders after December 30, 2016 (“Modified Macron RSUs“)

For companies that have granted tax-qualified RSUs in the past, the question is whether they will want to continue to grant qualified RSUs after the latest changes.  Similarly, companies that have granted non-qualified RSUs in France or that are starting to grant RSUs in France for the first time will want to evaluate whether they can and want to grant tax-qualified RSUs under the new regime.

Background

Granting equity awards to employees in France can be expensive because of the high employer social taxes.  In particular, any income realized from a non-qualified equity award (e.g., spread at option exercise, FMV of shares at vesting of RSUs) is subject to employer social taxes at a rate of up to 46%.  The 46% rate is comprised of different social insurance contributions, only some of which are subject to a cap.  This means that even awards granted to highly compensated employees will remain subject to employer social taxes at a rate of approx. 25%(while the employees will have reached the contribution ceilings for the other contributions with their other compensation).  If a company grants awards on a broad basis in France, makes large awards to some employees or if the stock price increases significantly after grant, accordingly, the French employer is looking at a big employer social tax liability.

Many companies have been trying to mitigate employer social taxes by granting tax-qualified awards.  Several years ago (before it was possible to grant French-qualified RSUs), no employer social taxes whatsoever applied to French-qualified options.  Recognizing the loss of significant tax revenue, the French government started to impose employer social taxes on tax-qualified awards, but the timing of the taxation and the tax rate have changed significantly over the years.  Some of the changes have made it very difficult for companies to determine whether granting tax-qualified awards is, indeed, beneficial for them.

Determining Which Tax Regime Applies

Before we look at the possible tax benefits of granting tax-qualified RSUs (versus non-qualified RSUs), let’s first discuss under which regime companies may be able to grant qualified RSUs.

Strangely, this depends on when the plan under which the RSUs are granted was last approved by shareholders.  If the plan was last approved on or before August 7, 2015, qualified RSUs can be granted only under the Pre-Macron Regime.  If the plan was last approved after August 7, 2015 and before or on December 30, 2016, qualified RSUs can be granted only under the Macron Regime.  If the plan was last approved after December 30, 2016, qualified RSUs can be granted only under the Modified Macron Regime.

Because it is unlikely that companies would take their plan to shareholders just to be able to grant qualified RSUs under a particular regime (or obtain approval just for a French sub-plan), the application of the different regimes is somewhat random*.

Employer Social Tax Treatment Under Different Regimes

As mentioned, the timing and rate of the employer social taxes varies significantly depending on the applicable regime and can be summarized as follows:

Non Qualified RSUs Pre-Macron RSUs Macron RSUs Modified Macron RSUs
Rate Up to 46% (same as for salary) 30% 20% 30%
Taxable event Vesting date Grant date Vesting date Vesting date
Taxable amount FMV of shares at vesting FMV of shares at grant or fair value as determined under IFRS 2 (at election of employer) FMV of shares at vesting FMV of shares at vesting

It is important to note that, if the employee forfeits the RSUs before vesting (typically because the employee terminates prior to vesting), no employer social taxes will be due under any of the regimes, except the Pre-Macron Regime.  For RSUs granted under the Pre-Macron Regime, the employer has not been entitled to a refund for the employer social taxes paid at grant (which has been one of the reasons why it has been so difficult to evaluate whether such RSUs can result in employer social tax savings when compared to non-qualified RSUs).  However, this might change due to a challenge that is currently pending with the French Constitutional Court.

If successful, employers will be able to apply for a refund (likely both for previously granted awards and for future awards).

Employee Tax Treatment Under Different Regimes

The employee tax treatment also varies quite a bit depending on the applicable regime, as follows:

Non Qualified RSUs Pre-Macron RSUs Macron RSUs Modified Macron RSUs
Annual vesting gain not exceeding €300,000 Portion of annual vesting gain exceeding €300,000
Taxable event / Taxable amount Vesting date/FMV of shares at vesting Sale of shares/Gain divided into Vesting Gain (FMV of shares at vesting) and Capital Gain (sale proceeds minus FMV of shares at vesting)
Income tax Taxation as a salary income

Taxed at progressive rates up to 45%

Taxation as sui generis gain

Taxed at progressive rates up to 45%

Taxation as a capital gain

Taxed at progressive rates up to 45%, but application of rebate on entire gain (i.e., vesting and capital gain) if shares hold for certain period: 50% if shares held at least 2 years; 65% if held more than 8 years

Same as Macron RSUs Same as Pre-Macron RSUs
Social taxes Up to 23% (same as for salary) of which approx. 20% is tax deductible 8% of which approx. 5.1% is tax deductible + 10% specific social contribution 15.5% on entire gain of which 5.1% is tax deductible

The gist of the above is that RSUs granted under the Pre-Macron regime are not very beneficial to the employee, even compared to non-qualified RSUs.  For Macron RSUs (and for Modified Macron RSUs, provided the employee does not realize more than €300,000 in annual gains), the tax treatment can be dramatically better, but only if the employee holds the shares for at least two years after vesting.

Main Requirements under Different Regimes

Various requirements have to be met to qualify for the special tax treatment under any of the French-qualified RSU regimes.  The most significant ones are as follows:

Non Qualified RSUs Pre-Macron RSUs Macron RSUs Modified Macron RSUs
Minimum Vesting Period None Two years One year One year
Minimum Holding Period None Two years from relevant vesting date Two years from grant date Two years from grant date

For Pre-Macron RSUs, this means shares generally cannot be sold any earlier than after the fourth anniversary of the grant date, as opposed to two years under the Macron and Modified Macron Regimes (exceptions may apply in the case of death or disability).  This makes the Macron and Modified Macron Regimes a lot more attractive for employees.

However, several additional requirements apply that can be difficult to administer for the issuer (e.g., closed period restriction at sale, accelerated vesting at death).  These requirements are the same under all of the different qualified RSU regimes.

Conclusion

Given all of the complexities related to the tax treatment and the requirements of qualified RSUs, it is almost impossible to say whether it is a good idea to grant qualified RSUs in France.  So much depends on the company’s circumstances, not least on the regime under which the RSUs can be granted.

However, I would generally caution companies to grant qualified RSUs, unless they have a strong stock administration team that can properly administer these awards and keep track of the many changes that have occurred.  If qualified RSUs are granted, but then not correctly administered (e.g., holding periods are disregarded), companies risk disqualifying the RSUs which can have disastrous tax consequences for both the employer and the employees (and be way worse than if the company had granted non-qualified RSUs).  Companies should also consider that disqualification can occur if awards are adjusted due to corporate transactions, with the same negative tax consequences.

Furthermore, I am not convinced that we have seen the last of the changes to the qualified RSU regimes.  As France prepares to elect a new President and usher in a new government, it is very possible that more tax reforms are on the horizon (especially if Mr. Macron wins the election…..).

On the other hand, I recognize that some companies have granted qualified RSUs for years and that changing to non-qualified RSUs can be a difficult “sell” to employees (and maybe the French employer).  Similarly, companies that are fortunate enough to be able to grant Macron RSUs may be happy to shoulder the burden of administering French-qualified RSUs in return for a flat 20% employer social tax at vesting.

So, again, every company should carefully consider whether it makes sense to grant qualified RSUs.  And, in any event, we all must stay tuned for further changes!

*That said, we are aware of a few companies that have either timed their shareholder approval to be able to rely on a specific regime (typically only possible for private companies) or that have sought shareholder approval for a French sub-plan (even though no amendments were made to the general plan).

The Go-To Guide to 2016-2017 Filing / Reporting Requirements for Global Employee Share Plans

2016-2017

It is almost the end of the calendar year, and in addition to wrapping up gifts and holiday parties, it is time for multinational companies to consider the necessary tax and regulatory filings for global stock plans triggered by the close of 2016. As you consider the steps your company may need to take to start the new year right, please see our Global Equity Services Year-End / Annual Equity Awards Filing Chart, which contains key filing and reporting requirements for 2016 and 2017.

Happy Holidays from Baker McKenzie – wishing you prosperity in the New Year and favorable equity regulations around the globe!

Brave New World: Withholding in Shares After Changes to ASC 718

brave-new-world

Many companies are considering changing their tax withholding practices after FASB modified the accounting rules for share-based awards (ASC 718). For most companies, the modified rules become mandatory for accounting periods starting after December 15, 2016, although companies are able to voluntarily implement the revised rules earlier.

The changes to ASC 718 were mainly intended to facilitate tax withholding for equity awards granted to employees outside the U.S., but have also raised questions for taxes withheld for U.S. executives. Continue reading

Restrictive Covenants and Equity Awards: Match Made in Heaven or Headed for Divorce?

A sizeable number of companies include restrictive covenants in their equity award agreements, such as non-compete, non-solicitation, confidentiality and/or non-disparagement provisions. If a grantee violates the provisions, companies can forfeit the award (if still outstanding at the time of the violation), claw back any shares or proceeds related to the shares (i.e., sale proceeds and dividends) or seek an injunction to cease the employee’s violation of the applicable covenant. The restrictive covenants typically are not tailored by jurisdiction but, rather, of a “one-size-fits-all” variety. As a result, companies should not be surprised to learn that the covenants rarely are enforceable as written, especially the non-compete and non-solicitation covenants.[1]

I think it is fairly well-known that non-competes are generally not enforceable in California, except in a few narrow circumstances (such as a selling shareholder or partnership dissolution). The same cannot be said for other jurisdictions (whether other U.S. states or non-U.S. countries), but it is very unlikely that the “one-size-fits-all” approach will work. Continue reading

Australian Share Plan Reporting Goes Digital

The Australian tax year just ended (on June 30, 2016) and the deadlines for Australian Share Plan Reports are just around the corner! This year, to make things more complicated, the Australian Tax Office (ATO) has made a number of changes to the reporting requirements for both the Employee Share Scheme (ESS) Statements and Annual Reports.In addition to a new online reporting system, the ATO is requesting additional data for both the ESS Annual Report and Statement, including specific information relevant to mobile employees and start-ups. Continue reading

What To Do When Your Board Goes Global

We are seeing an accelerating trend among U.S. companies to add non-U.S. residents to their Board of Directors.  This makes sense: as more and more companies “go global” and expand in ever more countries, their Boards should reflect the global nature of the company.

What takes many companies by surprise, however, is that the tax treatment of cash compensation paid and equity awards granted to the non-U.S. directors can be quite complex.  In addition, for the equity awards, companies will need to consider regulatory restrictions such as securities law requirements and ensure that the grants can fall under an exemption.  Continue reading

Are Arbitration Clauses in Award Agreements Arbitrary?

Most equity plans include a governing law provision that provides that the plan and the awards granted under the plan are governed by the law of the jurisdiction in which the issuer is incorporated.  In addition, we typically recommend that companies include a venue provision in their award agreements providing that any dispute related to the plan or awards has to be litigated in a forum chosen by the issuer.  For US-based issuers, this will usually be a federal or state court in the United States, where courts are more likely to enforce the provisions of the award agreements (which typically favor the issuer).   The hope is that, by including such governing law and venue provisions, companies can defeat lawsuits brought by award recipients outside the United States on the basis that foreign courts (which are more likely to apply employee-friendly local employment laws) do not have jurisdiction.  It is questionable if this argument always works (in fact, a UK court recently ruled that UK courts had jurisdiction despite a Massachusetts governing law and venue provision in the award agreement), but such venue provisions may at least have a deterrent effect in some cases. Continue reading

Israeli Tax Nightmare?

The Court Case

In December 2015, the Tel Aviv District Court issued a ruling (the “Kontera decision”) that could have significant implications for companies that have a cost-plus structure in Israel and grant equity awards to employees of the Israeli entity.  Under a cost-plus transfer pricing method, the parent company (or another entity in the company group) compensates the local entity with a fee that equals its direct and indirect costs related to the service provided by the local entity (the “cost base”) plus a mark-up (usually, a percentage of the cost base).  The total fee  is treated as taxable income to the local entity.  It is therefore critical that all expenses that comprise the cost base are deductible expenses for local tax purposes.  If they are, then the taxable income will equal only the amount of the “plus.”

In most countries, companies can determine the amount of their intercompany service fees under the cost-plus approach without including the “cost” of equity awards in the cost base.  This is based on the argument that,  absent a recharge payment by the local entity, there is no actual cost incurred by the local entity.  In this case, the amount of the “plus” is minimized and it is less critical to ensure that the amount of the notional equity compensation “cost” is a locally deductible expense.

However, the Tel Aviv District court rejected this argument in the Kontera decision: in a case where the Israeli entity was being compensated under the cost-plus method, the court ruled that the expense related to the grant of options to employees of the entity had to be included in the cost base.  The “cost” to be included was equal to the accounting expense of the options, not the value of the shares issued to employees (minus the exercise price paid by employees). Continue reading

(Leave of) Absence Makes the Heart Grow Fonder?

It is not uncommon for an equity plan or a leave of absence policy to provide that vesting of awards will be suspended during any unpaid leave of absence.   The intent is clear: companies do not want their employees to continue to vest in and earn awards if they are not rendering services (e.g., because they are on a sabbatical).  However, these types of provisions can be problematic.

Is Suspension Legal and Administratively Feasible?

First, by suspending vesting during an unpaid leave of absence, companies are assuming that such leaves are not protected by law.  (Often, the provision goes on to provide that vesting during paid leaves will also be suspended, but only to the extent such leaves are not protected by law or by contract.)  However, there may also be unpaid leaves outside the U.S. during which suspension will not be permissible.   The provision also raises the question of what is considered an unpaid leave.  Is it a leave during which the company does not pay the employee, even if the employee is paid by a government agency (for at least a portion of his/her regular salary)?  If the employee is paid by the government (as may be the case in some countries for employees on maternity or parental leaves), it will be quite common for the leave to be protected under local law. Continue reading

New Data Privacy Turmoil?

As has been widely reported (see Baker & McKenzie client alert), the European Court of Justice (ECJ) invalidated the EU/US Safe Harbor Program which allowed transfers of personal data of EU/EEA residents to U.S. companies that registered under the program.  Generally, such transfers are allowed only if a permissible ground exists, and the Safe Harbor Program was a convenient ground for many U.S. companies doing business in the EU/EEA.  By invalidating the program, these companies are now forced to rely on other grounds, such as the data subject’s express consent or Model Agreements between the transferring and receiving entity.

What Does This Mean for Equity Award Administration?

In the context of equity awards, U.S. companies granting awards to employees in the EU/EEA have to collect, process and transfer the employees’ personal data (i.e., information by which an employee can be identified) to administer their participation in the plan.  Usually, the equity award database is maintained in the U.S., so the data has to be transferred to the U.S.  In addition, the data is often shared with third-party providers (e.g., stock plan brokers) which also maintain databases in the U.S.  Continue reading