Tax treatment of stock option plans clarified

The option to purchase shares of stock in a corporation has been one of the emerging practices of companies today in order to attract and retain employees. It is intended as a means to reward employees for their contributions to the company. Some stock option plans are dependent on performance and outstanding business achievements, while some are widely given by the company to all of its employees.   

So, what is a stock option? It is an option granted by a person, natural or juridical, to a person or entity to purchase shares of stock of a corporation, which may or may not be the shares of stock of the grantor itself, at a specific price to be exercised at a specific date or period (also referred to as “Equity-settlement Option”). It may also occur even if no actual shares of stocks are transferred such as in a situation wherein a person or entity is paid the difference (if in a favorable direction) between the actual fair market value of shares and the fixed nominal value of the shares of stock set in the grant of the option, at a specific date or period, although no actual shares of stock are transferred (also referred to as “Cash-settlement option”). Indeed, a stock option has value if, at the time of the exercise, the stock is worth more than the price fixed on the grant date.

Stock options are considered “shares of stock” as defined under the Philippine Tax Code and are, therefore, taxable as such.

In 2012, the Bureau of Internal Revenue (BIR) issued Revenue Memorandum Circular (RMC) No. 88-2012 which discussed the tax implications of income or gain derived by an employee from the “exercise” of stock option plans. The circular cited a BIR ruling which held that any income or gain derived by an employee from the exercise of a stock option is considered as additional compensation subject to income tax, and consequently to withholding tax on compensation. Yet, any income or gain derived from stock option plans granted to managerial and supervisory employees which qualify as fringe benefits is subject to fringe benefit tax.

Recently, however, the BIR issued RMC No. 79-2014 dated Oct. 31, 2014 clarifying the tax treatment of stock option plans and other option plans, wherein the BIR clearly laid down the rules in taxing not only the “exercise” of the option, but also the “grant” and “sale or transfer” of the option, thereby discussing the tax consequences of the different stages of the option.

RMC No. 79-2014 elucidated that in the “grant” of the option arising from an employer-employee relationship, where the grantor is the employer and the grantee is the employee, and no payment was received by the employer for the grant of the said option, on the year an option was granted, the grantor cannot claim deductions for the grant of the stock option. If the option was granted for a price, however, the full price of the option shall be considered capital gains, and shall be taxed as such.

Further, upon the issuance of the option, the same is subject to a documentary stamp tax (DST) amounting to Seventy-five centavos (P0.75) on each Two Hundred Pesos (P200.00) or fractional part thereof, of the par value of the stock subject of the option. In the case of stock without par value, the DST shall be the amount equivalent to 25 percent of DST paid upon the original issue of the stock subject of the option.     

RMC No. 79-2014 affirms that in the “exercise” of the option, if the employee which exercises the option is a rank-and-file employee, an additional compensation equivalent to the difference of the book value/fair market value of the shares, whichever is higher, at the time of the exercise of the stock option and the price fixed on the grant date, shall be recognized and subjected to income tax and consequently to withholding tax on compensation. However, if the employee occupies a supervisory or managerial position, the difference shall be treated as a fringe benefit subject to fringe benefit tax. Further, in the event the option was granted to a supplier of goods or services, the difference shall be recognized as additional consideration for the services rendered or goods supplied by the said supplier, and shall be subject to the relevant withholding tax at source and other taxes applicable. Furthermore, in the event the option was granted to a person who is not an employee, or a supplier of goods or services to the grantor, the difference shall be considered a donation, and shall be subject to donor’s tax, among others.     

The sale, barter or exchange of stock options is treated as a sale, barter or exchange of shares of stock not listed in the stock exchange, hence, subject to capital gains tax. However, if the option is transferred without any consideration, it shall be treated as a donation of shares of stock subject to donor’s tax.   

  In addition to the above, RMC No. 79-2014 confirmed the reportorial requirements for the issuing corporation in the “grant” and “exercise” of the option. In the grant of the option, the issuing corporation must submit, within 30 days from the grant of the option, to the revenue district office where it is registered a statement under oath indicating the details of the option. Whereas in the exercise of the option, during the exercise period, the issuing corporation must file a report on or before the 10th day of the month following the month of exercise stating therein the details of the option. 

Indeed, RMC No. 79-2014 has clearly set the rules and removed the cloud on the conflicting rulings from tax authorities on stock options. Then again, a precise circular such as this would mean a more rigid and stringent assessment by the BIR. Therefore, companies which have existing stock option plans are encouraged to review their option plans to ensure compliance with the rules set forth, while for companies which intend to have stock option plans, this may be the best time to determine the propriety of having one considering the clear-cut rules provided by the BIR.

Aileen Grace P. Pizaña is a supervisor from the tax group of R.G. Manabat & Co. (RGM&Co.), the Philippine member firm of KPMG International.

This article is for general information purposes only and should not be considered as professional advice to a specific issue or entity.

The view and opinions expressed herein are those of the author and do not necessarily represent the views and opinions of KPMG International or RGM&Co. For comments or inquiries, please email [email protected] or [email protected].

For more information on KPMG in the Philippines, you may visit www.kpmg.com.ph.