On May 25, 2000, the Canada Customs & Revenue Agency ("CCRA"), formerly Revenue Canada, announced a significant change in interpretation affecting the taxation of stock options.
In the February 2000 Federal Budget, income tax relief was provided to employees who exercise stock options to allow for the deferral of the taxable benefit until such time as the employee disposes of the shares. The change in interpretation announced on May 25th will provide further tax relief in many circumstances where stock options are exercised and immediately sold by the employee.
Often, an employee who already owns shares of the employer will exercise options and sell the securities on the same day. Under CCRA’s pre-existing view, the cost of the shares already owned was averaged with the cost of the shares acquired under the stock option plan.
As a result, where the previously-owned shares were acquired at a time when their fair market value was substantially lower than the current price, the employee would recognize a capital gain on exercising the options and immediately selling the shares in addition to any employment benefit realized.
Under CCRA’s new interpretation of the relevant income tax law, the above averaging calculation would not be required where it is obvious to conclude that the particular shares acquired under the stock option agreement are, in fact, the shares that are immediately sold by the employee. In order to support this specific identification, the employee must show a correlation between the exercise of the option and the disposition of the shares. CCRA indicates that it will accept that there is such a correlation where, for example, the number of shares acquired under the option agreement is equal to the number of shares that are sold immediately after the exercise of the option. As a result, only the cost of the new shares acquired under the stock option agreement will be relevant in computing any capital gains or losses on the sale of the shares. Generally, this will mean that there will be no capital gain or loss on the disposition of the shares.
CCRA indicates that this interpretation will not apply where the employee acquires additional shares subsequent to exercising the stock option and before the disposition of the shares.
As a result of this new position, employees who already own shares of their employer may exercise their stock options and dispose of the shares immediately without suffering adverse tax consequences resulting from the cost averaging provisions. This announced change, along with the previous Budget announcements and other changes, signals a clear intention by the federal government to accommodate the greater use of stock option plans to help Canadians remain competitive in the technology and other industries.
The information provided herein is for general guidance on matters of interest only. The application and impact of laws, regulations and administrative practices can vary widely, based on the specific facts involved. In addition, laws, regulations and administrative practices are continually being revised. Accordingly, this information is not intended to constitute legal, accounting, tax, investment or other professional advice or service.
While every effort has been made to ensure the information provided herein is accurate and timely, no decision should be made or action taken on the basis of this information without first consulting a PricewaterhouseCoopers LLP professional. Should you have any questions concerning the information provided herein or require specific advice, please contact your PricewaterhouseCoopers LLP advisor.
PricewaterhouseCoopers refers to the Canadian firm of PricewaterhouseCoopers LLP and other members of the worldwide PricewaterhouseCoopers organization.
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