Chapter 5 - Deferral measure – elections
5.1 We are seeking submissions on whether the proposed taxing point deferral should be elective or mandatory.
5.2 If the deferral is elective, then the following decisions will need to be made:
- who should make the election;
- when should the election be made; and
- whether the election should be on a scheme-by-scheme or grant-by-grant basis.
5.3 The deferral proposal described in this issues paper is designed to assist start-ups with liquidity and valuation issues. If companies would prefer to deal with these issues in other ways, this should be open to them. Therefore we do not believe that it should be compulsory for companies meeting the start-up definition to have to use the deferral regime.
5.4 Accordingly, some form of election should be possible.
5.5 As an underlying principle, because both the employer’s and employees’ tax positions are affected by deferral, they should both have certainty as to their tax position and, if an election to defer tax is being made, they should both be aware of it before committing to the share scheme.
5.6 Schemes will be implemented in most cases by the company. The company will have the responsibility for providing information about scheme benefits, and paying PAYE if elected, at the taxing point to Inland Revenue. The company will also have to put the amount of the share scheme benefit into its return as a deduction.
5.7 Accordingly, it seems sensible for the deferral election to be made by the company, in advance of the benefit being agreed to be provided. In this way, the employee will know in advance (that is, before agreeing to take remuneration in shares) the basis on which they will be taxed, and can make decisions accordingly.
5.8 It would seem simpler for the election to be made on a scheme-by-scheme basis. However, there would be nothing to prevent an employer providing both a deferred and non-deferred scheme, and allowing the employee a choice of scheme, if it wished to do so. An existing scheme could elect to defer, or not, and a scheme that was previously deferring that subsequently breached an eligibility threshold could continue on a non-deferred basis for subsequent issues.
5.9 This approach provides greater certainty to both the employer and employee in relation to their relevant tax positions under the scheme.
5.10 Another option would be for the employer to be able to choose to defer on an employee-by-employee basis. This would allow them to consult with the employee before deciding whether to provide their shares on a tax-deferred basis. This provides greater flexibility than the scheme-by-scheme approach.
5.11 To provide certainty and reduce opportunities for avoidance, it seems desirable for elections to be made up-front – or potentially even be part of the terms of the schemes.
5.12 In Australia, at one time and for certain schemes, employees were able to elect whether to be taxed on an upfront or deferred basis. However, the law was amended so that from 1 July 2009, shares offered under a qualifying deferred taxation scheme were automatically subject to the deferred taxing point. In other words, whether a share or right is subject to taxation up-front or at a later time depends on the structure of the scheme. Employees cannot elect to pay tax upfront on shares received under a qualifying deferred taxation scheme, but employees and employers are free to elect whether or not to participate in or offer a qualifying deferred taxation scheme – which is effectively an election to be taxed upfront or not, made at the time that the scheme is set up. This change was made to reduce the scope for tax avoidance, and also to make it easier for employers to comply with their reporting requirements.
5.13 Officials’ preference is for the election to be made on a scheme-by-scheme basis, at the time a scheme is set up, or when the deferral rules applied for existing schemes.
We are interested to hear from readers:
- Whether any deferral regime for start-up companies should be elective or mandatory.
- If elective, on what basis (scheme-by-scheme, employee-by-employee)?
- Should the choice to defer payment of the tax be available to the employer or the employee?
- What other design issues need to be considered for a deferral scheme?