Tax considerations for employee shareholdings

Some months ago, Rob wrote in his column about employee participation and how it could contribute to the staff shortage. We believe that engaging and rewarding key employees contributes to a company's success and growth. Therefore, today a small in-depth look at some key tax concerns with employee shareholdings.

Employment income
First of all, employee participation may involve taxed wages from employment. This is the case, for example, if the employee can buy the shares at a lower purchase price than the actual market value. The difference is then considered a benefit for the employee and is taxed with payroll tax at the time of acquiring the shares. The employer must pay payroll tax on the benefit. It can then in turn recover the remitted payroll tax from the employee (after all, the employee enjoyed the benefit) or gross it up, leaving the burden on the employer.

Financing employee participation
What we often see in practice is that the employer plays a role in financing the employee's acquisition of the shares. In that case, it is important that an arm's length interest rate is charged on this loan. If this does not happen, the inspector can tax a wage benefit here too.

Lucrative interest
A participation scheme can also qualify as a lucrative interest. A lucrative interest exists if the benefits to the employee are disproportionate to the size of the investment and the risk run with it. As a result, a lucrative interest is taxed with income tax in Box 1 at the progressive rate of up to 49.50% (2023). A (too) low interest rate on the loan combined with no or relatively limited contribution of equity by the employee may lead to the view that there is a lucrative interest.

Company tax deduction limitation
Under the Corporation Tax Act, costs associated with the provision of shares to employees are not deductible. This includes, for example, labour costs when the shares are provided free of charge or at a purchase price lower than the fair market value. As an alternative to providing the shares for free, in some cases a bonus is granted to the employee with which the employee acquires the shares. Existing bonus schemes are also sometimes used so that employees can buy shares. Depending on the participation conditions, these bonuses sometimes also fall under the deduction limitation.

Role of Tax Authorities
In practice, an employee participation plan is often reconciled with the Tax Authorities. Reconciliation processes with the Tax Authorities regarding the valuation and whether or not there is salary from employment, lucrative interest and/or non-deductible costs can be complex. These days, the Inland Revenue has a lot of knowledge about business valuations and uses internal guidelines in doing so.

Are you considering letting your employees participate in your company and want to know how best to do so? Then get in touch with us, we are happy to assist you with our experienced and expert consultants.