Failure To Consult A Works Council When Offering Stock Options Can Be A Criminal Offense
Most of our clients have operations in more than one foreign location and wish to offer stock options to their employees in those jurisdictions. Rules not only vary greatly by country but are constantly evolving with new legislation. The below is intended as general guidance only to issues that apply across most countries.
The comments below assume that (1) the local jurisdiction has a wholly owned entity of the foreign parent and that the stock being issued is that of the foreign parent and (2) the individuals to whom the offer of stock options/ESPP is made are employees of the local entity working in that jurisdiction.
Securities Regulations
In most EU countries, the EU Prospectus Directive has been implemented into local law. As a result options generally will be exempt from prospectus laws under various exemptions available including the 150 person exemption.
Jurisdictions to watch (among others) are Australia, Canada (check provincial regulations), China, Hong Kong, Indonesia, Israel, Japan, certain countries in the Middle East, Philippines, South Africa, Thailand.
In most of the countries above, exemptions are available but they must be applied for before the stock options are issued and there may be registration requirements.
Currency Regulations
Naturally if you issue stock options to your employees, they are likely to want to exercise their options at some point of time. It is, therefore important to check if there are currency exchange regulations in place that affect the outflow of funds. When the employee eventually sells the stock, any regulations on the inflow of funds will affect his ability to benefit from the stock option award.
- Outbound flow: countries to watch (among others): Argentina, China, Egypt, Philippines, South Africa, South Korea, Thailand, Turkey, Venezuela, and Vietnam
- Inbound flow: countries to watch (among others): Argentina, China, Czech Republic, Egypt, India, South Korea, Thailand, and Vietnam
- Reporting requirements: many countries who do not have specific exchange control regulations regarding currency transfers nevertheless do have reporting requirements with which the employee and/or the company must comply.
Taxation
Rules vary greatly so it is important to check the detail of each location but the following provide some guidance which we hope is useful.
- In the significant majority of countries, options are taxed upon the spread at exercise. However, in certain countries taxation may be accelerated to an earlier period such as vesting, grant or even offer date if certain conditions are met. Examples are Australia and Belgium.
- Most countries will also tax the employee on the gain made on the eventual sale of the shares.
Social Insurance
This generally seems to be a cost that is forgotten or overlooked by most employers – until the time for payment!
- Social Insurance contributions are generally payable on exercise of the option.
- The payment generally applies to both employer and employee at the rates ruling at the time of exercise.
- A cap on the contributions may apply in certain countries.
- Other payments equivalent to Medicare or health insurance tax may also be imposed.
- Certain countries are particularly expensive as there is no cap or ceiling on the amount on which the social insurance contribution will be payable. An example is France.
Be Aware Of Legal Issues
Employment law can significantly affect stock option issues and it is important to draft documentation so as to make maximum use of protections available to the issuer of the stock options.
Over the years employee claims based on stock options have increased and the Courts generally appear to be sympathetic to the employee. The matters below are a few examples of the type of legal issues that commonly arise.
- Where there is a stock option plan there is the potential for employees to claim that they have acquired a right to receive an award or to receive an award of a particular amount (an “acquired right” claim). There is also potential for employees to claim discrimination on grounds of race, sex, disability or other similar grounds if they believe they have received a lesser award than others. When a stock option plan is introduced, therefore, it is important it is offered fairly and the basis is documented.
- Especial care must be exercised when an employee is terminated. The problem is that in calculating compensation owed to employees on termination, Courts have included rights awarded under employee stock option schemes. Effectively, the value of the awards have been treated as salary. In some jurisdictions, Courts have even ruled that unvested options do not lapse on termination even where the original documentation states that they do lapse.
- It is usual to include clauses to specify that the law of the parent company’s jurisdiction will apply. However, the employee will take action under the employment law in the jurisdiction in which he/she works – some Courts will uphold the jurisdiction of the parent company as specified; others will not because local employment regulations prevail.
- Where there is a Works Council, one needs to be aware that introducing a stock option scheme may well require consultation with them. In some jurisdictions failure to consult with the Works Council can be a criminal offense.
These are general guidelines only. For more information on your specific country or situation, please connect with us.