Incentive schemes – tax rules based on tax rulings

From the top 2018 a number of individual interpretations in terms of Article 10(4) Act on 26 July 1991 on personal income tax[1] and Article 24(11)(11a)(11b) that law, namely provisions on benefits in the form of derivatives of financial instruments and incentive schemes. It is worth considering how the tax rules for incentive schemes have changed, whether the changes apply to all types of programmes, and how to tax the receipt of phantom shares and when the tax obligation arises in the event of a share option being granted.

Introduction

Before 1 January 2018 Capital incentive schemes often were based on the exercise of rights from financial derivatives, which were covered by persons entitled as unpaid benefits and eligible for tax purposes to a source of cash capital taxed at the rate of tax 19%.

With the entry into force of the amendment, 1 January 2018 new wording Article 24(11) u.p.d.o.f. – with added section 11a and 11b. The new rules govern the taxation of share income obtained under incentive schemes and define the concept of incentive scheme.

In addition, following the entry into force of the Act amending the Personal Income Tax Act, the Corporate Income Tax Act and the Flat-rate Income Tax Act on certain revenues generated by individuals[2] (Further Amending Act) introduced Article 10(4) u.p.d.o.f., including the principle of determining the source of revenue under a benefit not constituting a incentive scheme.

The regulation of the above-mentioned article excludes revenue generated by derivative financial instruments from the source of money capital and links it with the source of revenue under which they were obtained, e.g. under the employment contract.

From justification to draft amending law[3]

Change the sound Article 24(11) u.p.d.o.f. and addition section 11a-11b are intended to regulate the taxation of income generated by the disposal of shares acquired under so-called incentive schemes. The regulation is expected to be part of the simplification and precision of the existing rules, which have a positive impact on business.

The exclusion of revenue generated by incentive schemes from the implementation of financial derivatives or securities rights from the source of cash capital and crediting them with income from the employment relationship or activities performed in person is related to the objective of preventing the application of mechanisms as well as other forms of aggressive tax optimization.

These changes have significant consequences with regard to the time when the tax obligation and the amount of taxation arise. Share benefits received under the incentive scheme shall be taxed only at the time of the sale of the shares at the rate.

19%, Whereas the benefits received in relation to derivative financial instruments are taxed at the time of receipt and should constitute income from the employment relationship or income from activities carried out in person or from other sources, subject to taxation at progressive rates, i.e. 18% and 32%.

Individual tax law interpretations concerning incentive schemes

Introduction to the legal system of the principle of determining the source of income from Article 10(4) u.p.d.o.f. and the rules on taxation of proceeds from the disposal of shares acquired under incentive schemes from Article 24(11) u.p.d.o.f. has raised numerous doubts and questions about both articles.

They were notified by both companies involved in incentive schemes and by employees benefiting from such schemes. The following are dealt with most frequently in tax rulings issued as a result of these inquiries, first addressing benefits in the form of financial derivatives in the light of Article 10(4) u.p.d.o.f.

Investment fund shares

In the personal interpretation of the Director of National Tax Information from 5 June 2018[4] clarification of the applicant's doubts as to the classification of the remuneration paid in the form of units of the investment fund's shares on the basis of the revised rules.

The Authority indicated that the payment of remuneration for unit redemption would be taxable 19% Income tax rate according to Article 30a(1) U.p.d.o.f., as income from the cash capital in question under Article 17(1)(5) u.p.d.o.f. In other words, according to the body in the actual state analysed, introduced to u.p.d.o.f.

Article 10(4) does not apply to revenues paid in the form of units of the investment fund.

Phantom shares

In the personal interpretation of the Director of National Tax Information from 10 August 2018[5] the question of phantom shares, which do not constitute shares within the meaning of the Act of 15 September 2000 Commercial Companies Code[6] (further k.s.h.), i.e. do not give any equity rights to the company.

In the facts analysed, the eligible employee receives these phantom shares. Subsequently, after the withdrawal period, it may receive a payment in the form of a cash benefit, calculated as the product of the number of phantom shares awarded and their values after the end of the fixed withdrawal period.

The tax authority in that interpretation disagreed with the applicant for the classification of the cash benefit in question as income from the cash capital in question under Article 17(1)(10) u.p.d.o.f. Article 10(4) u.p.d.o.f. the qualification of the source of income in this case must be determined according to the type of legal relationship between the person entitled to benefit with the company providing the benefit.

Since Article 10(4) u.p.d.o.f.

excludes from the source from the cash capital revenue from the exercise of rights from derivatives of financial instruments or other derivative rights, the Authority indicated that phantom shares constituting derivative financial instruments are to be classified as income from a contract of employment or business performed in person, and thus as a source of revenue under which the derivative financial instruments in question were obtained.

Therefore, in order to take the decision, it was crucial to consider that the facts described apply Article 10(4) u.p.d.o.f.

Units in the incentive plan

In the personal interpretation of the Director of National Tax Information from 14 May 2018[7] answers to questions about the classification of units in the SAR incentive plan[8] (called SAR units) to the appropriate source of income, to the moment when the tax obligation arises and to the occurrence of any obligations of the payer.

The interpretation illustrates the interpretation used by the body to determine the source of income to which income should be eligible for the benefit based on financial instruments. According to the applicant, SARs should be classified as financial derivatives on the ground Article 5a(13) u.p.d.o.f.

However, the tax authority in this interpretation:

1. First, has analysed the grounds from Article 24(11b) u.p.d.o.f., after which it indicated that the SAR Plan could not be considered as an incentive programme because it did not meet all the conditions set out in the above-mentioned article in total;
2. followed by an interpretation of Article 10(4) u.p.d.o.f., rejected the possibility of classifying revenue from SAR Plans to income related to the employment relationship, as participation in the plan is granted by a foreign company with which it does not combine the employment relationship;
3. Finally, it indicated that revenue from the SAR Plan should be eligible as revenue from the so-called other sources concerned under Article 20 u.p.d.o.f. As compared to the time when the tax obligation arises, the authority indicated two moments: first at the time of the award of SARs for the acquisition of unpaid benefits within the meaning of Article 11(1) U.p.d.o.f. and second at the time of implementation of SAR units, i.e. at the time of the cash withdrawal. In both cases, revenue was included in other sources within the meaning of Article 20 u.p.d.o.f.

The following is discussed in the form of incentive schemes in the light of Article 24(11)(11a)(11b) u.p.d.o.f.

Types of incentive schemes

As part of the interpretations issued, it can be distinguished two types of benefits eligible as incentive schemes within the meaning of Article 24(11b) u.p.d.o.f.:

1. share benefits – and we can deal with different types of terms for share benefits, e.g. in an individual interpretation with 30 April 2018[9] there are ‘Payable Shares of C.S.A.’ and ‘C.S.A. Bonus Shares’. first they are purchased at a subscription price equal to the selling price of the public tender, and second are shares obtained free of charge during the incentive programme. In an individual interpretation of 13 July 2018[10] there are, on the other hand, ‘Delayed shares’ which, as the name suggests, are received after the suspension period, in this particular case: a three-year suspension period. In an individual interpretation of 29 May 2018[11] there are additionally ‘Restrictive shares’, the possibility of which is limited by certain conditions;
2. share options – the incentive scheme also includes share options, which constitute a pledge to acquire shares in the future. In fact, as analysed in the individual interpretation, 29 May 2018[12] the employee was entitled to receive an option for shares which, after a withdrawal period, can exercise in such a way that he receives the right to purchase shares at a preferential price.

Analyzing the issues in individual interpretations in terms of Article 24(11)(11a)(11b) u.p.d.o.f. in general, we have questions about the issues mentioned below.

The timing of the tax obligation in the public limited liability scheme

An example of the tax authority's position in this respect is the individual interpretation of the Director of National Tax Information from 16 July 2018[13], which confirms that taxable income on the part of employees participating in the so-called Restricted Stock Units, qualified as a incentive scheme, will only arise at the time of the sale of shares acquired by employees, in accordance with the moment when the tax obligation, specified by the value, was created. 24 section 11 u.p.d.o.f.

The use of this method of taxation is possible as the RSU plan meets the conditions of the incentive scheme set out in u.p.d.o.f.

The timing of the tax obligation in the stock options scheme

The individual interpretation of the Director of National Tax Information has already been cited from 29 May 2018[14] it confirms that the share option scheme also meets the conditions of the incentive programme, and therefore the employees participating in such a scheme obtain taxable income only when the shares obtained as a result of the share option are disposed of and not on the date of the free receipt or implementation of the share option.

Performance of the payer’s duties in connection with participation of employees in the incentive programme

Individual interpretation with 12 July 2018[15] reflects the position of the tax authority also expressed in a number of other interpretations in a similar factual state, confirming that, in connection with the participation of the company's employees in the incentive scheme, the employer's company will not be subject to any obligations of the payer.

Resolution of the General Shareholders Meeting as a condition for the qualification of the incentive scheme

According to Article 24(11b) u.p.d.o.f. the incentive programme is a system of remuneration established on the basis of a resolution of the general meeting of shareholders. The provision therefore contains a reference to the decision-making procedure for shareholders specified in k.s.h.

The question therefore arises as to how this provision should be interpreted if the incentive scheme is created by a foreign company operating on the basis, for example, of Belgian law? This situation was analysed in an individual interpretation of 13 July 2018[16]. In a description of the facts, the applicant indicated an analogy in the decision-making procedure for the functioning of the incentive programme, quoting the content of the resolution taken to establish such a programme.

A similar position was expressed in an individual interpretation of 30 April 2018[17] – in the situation analysed here, the incentive programme was created in accordance with Luxembourg law. On the basis of these interpretations, it can be concluded that the recommended action in the case of an incentive scheme based on shares in a foreign company is to indicate on the analogy of the shareholder decision-making process to the resolution of the general shareholders meeting on the basis of k.s.h.

Costs of obtaining revenue from the sale of shares acquired abroad

In fact, as presented in the personal interpretation of the Director of National Tax Information from 14 August 2018[18] the income generated by the free receipt of shares was taxable in the Netherlands as income from the employment relationship. The tax authority considered that due to the divestment of these shares and the existence of a tax obligation in Poland, there is a possibility of crediting the cost of obtaining the value of an unpaid benefit constituting income taxed abroad, on the basis of Article 22(1d) At the same time, the Authority confirmed that if there was no possibility of accounting for income taxed at the acquisition of shares for costs at the time of their disposal, the income earned by the employee in connection with the employee share scheme would be subject to double taxation.

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2 Journal of Laws of 2017, item 2175.

3 Seismic printing No 1878.

4 reference no. 0114-KDIP3-2.4011.149.2018.1.MK, Legalis.

5 reference no. 0114-KDIP3-2.4011.365.2018.2.AK, Legalis.

7 reference no. 0112-KDIL3-3.4011.66.2018.4.DS, Legalis.

8 Stock Appreciation Rights Plan (hereinafter: SAR Plan).

9 reference no. 0114-KDIP3-2.4011.118.2018.2.LS, Legalis.

10 reference no. 0114-KDIP3-2.4011.288.2018.2.MK, Legalis.

11 reference no. 0114-KDIP3-2.4011.209.2018.2.AK1, Legalis.

12 reference no. 0114-KDIP3-2.4011.209.2018.2.AK1, Legalis.

13 reference no. 0114-KDIP3-2.4011.328.2018.1.MK, Legalis.

14 reference no. 0114-KDIP3-2.4011.209.2018.2.AK1, Legalis, op. cit.

15 reference no. 0114-KDIP3-2.4011.248.2018.3.AK, Legalis.

16 reference no. 0114-KDIP3-2.4011.288.2018.2.MK, Legalis, op. cit.

[17] Ibid

18 reference no. 0113-KDIPT2-3.4011.379.2018.1.KS, Legalis.