Fall 2021 Edition – November 29, 2021 – Tracey Harrod, Senior Manager – Taylor Leibow LLP, Adrienne Barclay, Partner – Taylor Leibow LLP
Changes to Stock Option Benefits and Deductions
The 2019 Federal Budget and the draft legislation released June 17, 2019 announced changes to the taxation of stock options granted on or after January 1, 2020. Subsequently, the November 30, 2020 Fall Economic Statement confirmed that the federal government intended to proceed with revised changes to the taxation of stock option benefits but deferred the effective date to options granted on or after July 1, 2021 for corporations other than Canadian Controlled Private Corporations (CCPCs). On June 29, 2021, legislation for the new rules received Royal Assent and passed into law.
Under the old rules, applicable to corporations other than CCPCs, there was no tax to the employee upon being granted stock options from their employer or a corporation related to their employer. The taxable event occurred when the employee exercised the stock options. Tax was applied to the difference between the fair market value (“FMV”) of the shares at the time of exercise and the exercise price. This amount would be included in the employee’s employment income as a taxable benefit.
A stock option deduction equal to 50% of the taxable benefit could generally be claimed if the exercise price was not less than the FMV of the shares when the stock option was granted, and the employer did not claim a deduction for cash paid to an employee in lieu of issuing shares. As a result, the stock options would be taxable at a rate similar to capital gains.
Under the old rules, there were no restrictions on the number of stock options that could be granted to an employee, which often created a situation where the employee received a large amount of employment income and paid a low amount of tax on it, due to of the application of the stock option deduction.
The new rules affect stock options granted on or after July 1, 2021 by a corporation (or a group of corporations that prepares consolidated financial statements) other than a CCPC with revenue over $500 million in its most recent published financial statements. An employee can only take advantage of the stock option deduction, as noted above, on exercising the first $200,000 of stock options vesting per annum. Any excess stock option benefit will be fully taxable to the individual. The stock option deduction must consider stock options received by the employee from companies throughout the whole corporate group and the $200,000 limit is based on the FMV of the underlying shares at the grant date.
The portion of the employee’s stock option benefit that is calculated on shares over the $200,000 limit is deductible in that year to the employer. The employer has the option that they can elect to treat the stock option benefit on shares under the $200,000 limit as deductible. This will cause the entire stock option benefit to be fully taxable to the employee, because no stock option deduction would be available to the employee.
Employers must provide notification to the employee within 30 days of the option grant date of the portion of the option over $200,000 that does not qualify for the stock option deduction. Notice must also be given if the employer has elected to treat the whole of the stock option as deductible and therefore taxable in its entirety to the employee.
Going forward, the affected corporations will need to closely track option grants and ensure that when stock options are exercised that the correct payroll deductions are calculated and remitted. Proper notification must also be given to the employees of what portion of their stock options are taxable. Finally, if applicable, any elections pertaining to the stock options must be filed with the CRA.