Many forward-thinking employers offer their employees stock options in Canadian companies.
This means your employees can buy company shares at a discounted price. Leveraging these options can help you create enticing hiring packages that will make your team feel more valued and that they have a higher stake in your company, positively impacting productivity.
You’ll learn about how stock option compensation can reap numerous benefits for your team and the health of your business as well as your role in complying with taxes when granting stock options to employees.
What Are Stock Options?
Although it’s easy to conflate the two, equity and stock options are not one and the same.
Think of equity as a big umbrella. Stock options are a type of equity that fall into a specific category.
A stock option is not stock itself. It is a right but not a requirement to buy and sell stocks for a predetermined price (called a strike price or exercise price). This means an employee is guaranteed the opportunity to buy a certain amount of company stock at a set price, typically lower than its would-be or future market value, essentially giving them a discount to own a slice of the company.
When an employee actually makes the purchase of the option they are entitled to, they are exercising their stock option.
In Canada, stock options will usually be given to employees by employers (or sometimes a corporation or mutual trust) under one out of three types of plans:
- Employee stock purchase plan (ESPP). Under this plan, an employee contributes a certain amount of their earnings over a set time period. At specific intervals (typically every six months) during their employment, the employee can purchase stock options at the discounted rate offered by a company.
- Stock bonus plan. Here, an employer agrees to give stocks to an employee for free as part of their employment conditions.
- Stock option plan. An employee can buy shares of an employer’s company at a pre-set price.
The increase in value of a company’s stock options is one of the most common ways to build equity in a company, not to mention employee retention.
Stock Option Advantage
Allowing your employees to buy into stock options comes with a number of advantages. It will:
- Help employees feel connected to your business.
- Amp up the appeal of a hiring package.
- Let employees reap the benefits of your company’s achievement. When you succeed as a business, your employees will feel more loyal if they see a direct profit through their stock increase.
- Potentially save you money on salary pay. By offering stock options as an alternative, there’s less need to hike up salary offers, since employees can benefit through cashing out their stocks instead.
- Serve as a benchmark for how your company is doing. If your shares increase in value, it can be an indicator that your company is healthy and all members of your team are performing in a way that is driving value.
When Does an Employee Pay Stock Option Tax in Canada?
At participating companies, employees are given the opportunity to buy shares in a company at what’s called the exercise price.
When an employee receives the option to buy securities through their employer, generally there are no consequences in regard to tax, until the employee actually exercises their option to buy a discounted share.
Company type and location where shares are held can play a role in determining how much tax your employee will pay on a given stock option.
How do You Calculate Stock Option Tax?
When an employee decides to exercise their stock options and buy a share in your company at less than fair market value (FMV), they receive a taxable benefit.
This is usually calculated as the difference between the reduced price the employee paid for their stock through your company and the actual fair market value at the time the option was exercised.
If you are a Canadian-controlled private corporation (CCPC), your employees will not owe tax on their shares until they choose to sell. A CPCC is a private company in which shares are not traded on public stock exchanges, along with a few other qualifications.
To find out if a company is considered a CCPC, you can also refer to this guide by the Government of Canada.
If an employee works for a company other than a CCPC, they are taxed on the benefit (the value of the shares, minus the total amount paid) from the year the stock was purchased.
When an employee keeps their company shares after exercising their stock option, they may see a capital gain (the profit accumulated from selling an investment) or loss.
In Canada, 50% of a capital gain is taxable unless the stock options are held in a Tax-Free Savings Account (TFSA) or Registered Retirement Savings Plan (RRSP).
To better understand capital gains, losses, and their respective taxation, these guidelines from the Government of Canada can help you out.
How Can Borderless Help?
As an employer, you have a responsibility for keeping your employees’ paperwork in order to ensure the health and future of your company.
Tax mishaps, leading to a lack of compliance, are a key hurdle that could end up damaging your company’s reputation or creating costly liabilities.
Save yourself the headache and find out how Borderless can help you stay compliance-focused when it comes to taxes, including those on stock options.
Book a demo to find out how we can offload your tax stress quickly and with ease.
Disclaimer
Borderless does not provide legal services or legal advice to anyone. This includes customers, contractors, employees, partners, and the general public. We are not lawyers or paralegals. Please read our full disclaimer here.
