How are stock options taxed on your tax return?
A new income tax campaign has already begun and this time, we take a closer look at the taxation in Spain of Stock Options, a recurring remuneration figure among startups, whose objective is to obtain and retain talent, maintaining the company’s attractiveness, as well as a high degree of specialisation, without decapitalising the company in the early stages of the project.
The incentive plans that Spanish startups usually use are Stock Options and Phantom Shares.
In this article, we will analyse the figure and taxation of stock options, for which we must differentiate between three different time periods:
1.The granting of the stock option right.
The mere granting of a stock option right to purchase shares in a company does not generate income for the individual resident for tax purposes in Spain, nor does it generate income for the granting company for the stock option right granted.
It should be clarified that the holding of the option right to purchase shares in a company without having exercised the option to acquire them is not taxable for Personal Income Tax (hereinafter, IRPF).
Neither will the economic expectation of collection be included in Wealth Tax (hereinafter, IP) or in the Temporary Solidarity Tax on Great Fortunes (hereinafter, ITSGF), nor will it have to be declared in the informative form 720 for the declaration of assets and rights located abroad.
In conclusion, the simple economic expectation does not imply any taxation of the individual shareholder resident in Spain.
2. Exercise of the share option right
In accordance with the company’s share option vesting schedule, the individual resident in Spain is entitled to exercise his or her right of option on the shares.
Article 17. 1 of Law 35/2006, of 28 November, on Personal Income Tax and partially amending the laws on Corporate Income Tax, Non-Resident Income Tax and Wealth Tax, hereinafter LIRPF, defines full income from work as “all considerations or profits, whatever their denomination or nature, in cash or in kind, which derive, directly or indirectly, from personal work or from an employment or statutory relationship and which are not in the nature of income from economic activities”.
In accordance with the above, the exercise of the right to purchase stock options in a company is classified as employment income in kind.
The aforementioned employment income shall accrue at the time the call option is exercised and shall be valued, in accordance with Article 43 of the LIRPF, at the positive difference between the market value of the share on the day the call option is exercised and the amount paid by the beneficiary.
The difference between the market price and the price at which the option can be exercised constitutes, for tax purposes, remuneration in kind, taxable in the taxpayer’s personal income tax, as it is considered as remuneration derived from his work.
In accordance with the provisions of Article 42.3.f) of the LIRPF, the remuneration in kind would be subject to a maximum annual exemption of 12,000 euros, if the following requirements are met:
- That the offer is made under the same conditions for all employees of the company or, where applicable, of the group or subgroup of companies.
- That the employees, together with their spouses or relatives up to the second degree, do not have a direct or indirect shareholding in the company in which they provide their services or any other company in the group of more than 5%.
- The shares must have been held for at least 3 years since they were executed.
In addition, article 18 of the LIRPF establishes a series of reduction percentages applicable to certain earned income. In this respect, the aforementioned article also provides for the possibility of reducing the full income by 30%, as irregular income, provided that the following requirements are met:
- That the income has a generation period of more than two years, which in the case of the purchase of stock options requires that the period between the granting of the purchase option rights to the worker and their exercise is more than two years;
- That, during the five tax periods prior to that in which the options are exercised, the beneficiary of the options has not obtained any other income from work with a generation period of more than two years, except in the case of severance payments for termination of the employment relationship with a generation period of more than two years referred to above.
- The maximum amount subject to reduction is 300,000 euros.
3. Sale of shares
When the individual resident in Spain, as beneficiary of the stock option plan, is the holder of the shares, he/she can transfer them for profit, obtaining a capital gain or loss from the sale.
In this respect, article 33.1 of the LIRPF establishes that “capital gains and losses are the variations in the value of the taxpayer’s assets that become apparent on the occasion of any alteration in the composition of those assets, unless they are classified by this Law as income”.
Likewise, Article 34.1.a) of the LIRPF, the amount of the capital gains or losses shall be: “a) In the event of transfer for valuable consideration or profit, the difference between the acquisition and transfer values of the assets”.
The capital gain or loss obtained by the individual shareholder resident for tax purposes in Spain would be taxed in the savings tax base for personal income tax purposes on the difference between the valuation of the share on the day of the sale and its valuation on the day of the execution or purchase of the stock options.
In relation to the taxation associated with the sale of shares in the taxpayer’s personal income tax, the tax scale for capital gains for the 2023 financial year is included below:
Notwithstanding the above, for income corresponding to the financial year 2022, please note that the maximum tax rate will be 26% for amounts over 200,000 euros.
Specific case of taxation of Stock Options in the United States of America
American legislation provides for a series of tax benefits and taxation different to those provided for in the Spanish and European regulatory framework. In the present case, we highlight Section 83(b) of the US Internal Revenue Code (IRC), which allows employees who receive certain types of non-cash compensation, such as restricted stock, restricted stock or restricted stock units, to elect to pay taxes on the value of the shares at the time of acquisition, rather than waiting until the shares are sold.
In the case of stock options, a Section 83(b) election allows the holder of stock options to pay tax on the value of the option at the time of grant, rather than waiting until the option is exercised and the shares vest.
In this regard, if the employee elects to make a Section 83(b) election for a stock option, the employee must file Form 83(b) within 30 days after the date of grant of the option. By making this election, the employee will pay tax on the fair market value of the stock at the time the option is granted, rather than waiting until the option is exercised and the stock is acquired.
In this regard, Section 83(b) taxation in the case of stock options is somewhat more complex than in the case of restricted stock or restricted stock units, since the value of the option is not the same as the value of the underlying shares. Typically, the value of the option is calculated using an option pricing model, such as the Black-Scholes model.
Once the option is exercised and the shares are acquired, the employee will also have to pay tax on any gain realised on the sale of the shares. If the employee were to hold the shares for more than one year from the date of exercise of the option and two years from the date of grant of the option, it is considered a qualified disposition and more favourable tax rates would apply to the capital gain.
Therefore, the Section 83(b) election allows the option holder to pay tax on the value of the option at the time of grant at a value far less than the amount that would result from the exercise of the stock option right and acquisition of the shares.
Article written by:
Senior tax manager
Metricson is a pioneer in legal services for innovative and technology companies. Since its inception in 2009, it has advised more than 1,400 companies from 14 different countries, including startups, investors, large corporations, universities, institutions and governments.