At the outset of any business endeavour, generating funding and determining how to compensate employees often go hand in hand. There are generally three options available to compensate employees and attract investors: stock options, profit sharing, and debt financing. A stock option is a right to buy a share at a particular price on specific terms. If the value of the company increases above the exercise price (that is, the price at which the option shares can be purchased), the option-holder benefits. Stock options are often the most common form of equity used in employee compensation packages and receive favourable tax treatment under the Income Tax Act.
In October 2015, the new Liberal government had pledged to increase taxation of stock options on gains exceeding $100,000 as part of their overarching objective to increase tax on wealthy Canadians:
[...] The Department of Finance estimates that 8,000 very high-income Canadians deduct an average of $400,000 from their taxable incomes via stock options. This represents three quarters of the fiscal impact of this deduction, which in total cost $750 million in 2014. Stock options are a useful compensation tool for start-up companies, and we would ensure that employees with up to $100,000 in annual stock option gains will be unaffected by any new cap.
Canadian start-ups argued that such a tax would stifle recruitment in the start-up sector where employees often accept lower salaries in return for stock options. Fortunately, stock options will continue to receive favourable tax treatment under the Income Tax Act. Finance Minister, Bill Morneau, told reporters the cap would be omitted from the budget with no plans on instating it in the near future. This news was welcomed in the start-up space.
Written with the assistance of Saam Pousht-Mashhad, summer student.
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