Securities Options: post-acquisition charges on options - old rules
The following instructions relate only to resident and ordinarily resident employees (old Case 1 of Schedule E) within Chapter 5 Part 7 ITEPA 2003 as originally enacted. Other employees are dealt with through the provisions of Chapter 3C (securities acquired for less than market value) - previously ICTA88/S162.
The rules apply to shares up to 31 August 2003 and to other securities up to 15 April 2003.
When an employee exercises an option he acquires the shares to which the option gave a right. The amount charged to tax is the difference between the market value of the shares at the time the shares were acquired and the amount paid for them. If anything was paid for the grant of the option this is added to the amount paid for the shares.
ICTA88/S135 brings a gain on the exercise of an option within Schedule E. It also applies to making money out of the option in any other way such as assigning it (selling it to someone else) or cancelling it in return for cash (releasing it).
The following conditions must be satisfied:
- The option must have been obtained by reason of the office or employment.
- The option holder must be an employee or director chargeable under Case I of Schedule E on the emoluments from that employment.
- Directors and employees include people who are or have been directors or employees.
An option may sometimes be granted by reason of an employment that starts at some future date. If the emoluments from the employment are within Case I any gain on exercise, assignment or release of the option will be charged to Income Tax under Schedule E. See ICTA88/S140 (1) and ICTA88/S136 (5).
Definition of “shares”
Shares includes stock (interest of any member in a company) and other securities as defined in ICTA88/S254 (1), but does not include Government gilts.
ICTA88/S135 (3)(a) based the gain on the amount that might reasonably be expected to obtain - after a sale on the open market - so a net amount after selling costs.
Notional selling costs
In calculating the amount “which might be obtained” an employee may claim a deduction in respect of ‘notional selling costs’. Such an amount representing a reasonable estimate of what it would have cost the employee to sell the shares on the day of exercise, can be accepted. The SA return would then show a market value per share net of notional selling costs.
In June 2000 Michael Talbot is granted an option to acquire 1,000 shares at a price of £2 per share. £1 is paid as consideration for the grant of the option.
The option is exercised on 1 July 2003 when shares of the same class have a market value of £5 each.
|Value of shares||5,000|
|less notional selling costs||50|
|less paid for shares||(2,000)|
|less paid for option||(1)||(2,001)|
|Share option gain for 2003/4||2,949|
If an employee exercises an option to acquire quoted shares and sells the shares acquired through the stock exchange on the same day that the option is exercised, the sale price of the shares may be accepted as the market value for the purposes of assessing the gain made on exercise. In any other case (for example, if the shares are sold at a later date, or if the shares are unquoted shares) market value at the date of exercise should be established.
Fall in value of shares
No concession is available should the value of the shares fall after the exercise of the option and before the employee sells them. The full gain calculated by reference to the market value of the shares at the exercise date remains chargeable to Income Tax. However, the employee will in these circumstances generally have a Capital Gains Tax loss when the shares are sold, as the consideration given for the shares will consist of the price paid for the shares plus the amount charged to tax under Schedule E.
Assignment or release of option
A charge to Income Tax under Schedule E also arises if an employee assigns (sells) or releases (gives up) an option. The amount chargeable is the difference between the amount paid to the employee for the assignment or release and the amount (if any) paid for the option.
If an employee omits to exercise an option, or undertakes not to exercise it, without actually releasing it, any consideration received in that connection can also be charged to Income Tax. If an option is granted to someone else to acquire the shares, which are the subject of the employee’s option, any consideration received for granting the option can also be charged to Income Tax.
If an option is granted by reason of a person’s employment, but to some person other than the employee (for example to the employee’s spouse) the employee is chargeable to tax in respect of any gain realised by the other person. The employee would also remain chargeable if, after being granted an option by reason of his employment
- the option was sold to someone in a deal that was not at arm’s length, or
- the person who finally realised a gain from the option was connected with the employee when the gain was realised.
Other deductions from option gain
The following may also be deducted in computing the option gain:
- Any charges to tax on grant of the option - see ERSM110200
- Any previous charges to tax on a previous holder on assignment
- Any amount which is deductible under ITEPA03/S481 or ITEPA03/S482 (NIC)