Taxation of option rights granted to shareholders
Rolf Wüthrich of burckhardt looks at the options available to taxpayers when it comes to the tax treatment of option rights granted to shareholders and explores the Swiss tax consequences of a company granting call or put options to shareholders at a price not equal to the fair market value.
On December 23 2013 the Swiss federal tax administration (FTA) issued Circular No. 39 (the Circular) regarding the taxation of option rights granted to the shareholders of a company. The Circular completes the Circular No. 37 of July 22 2014 which deals with the taxation of employee benefit plans. The new Circular is applicable to all options granted to shareholders as of December 23 2013. It replaces the guidelines of the FTA of January 16 1996 regarding shareholder options.
The Circular deals with call or put options issued by a Swiss stock corporation or limited liability company (hereafter the Issuer) to its shareholders against no consideration or at a price below the fair market value. If the shares underlying the granted option rights are shares in the Issuer then it is required to distinguish whether or not the exercising of the option right will lead to a formal increase or decrease, as the case may be, of the capital of the Issuer. If the underlying shares are not traded at a public stock exchange, the option plan as well as the mechanism for the calculation of the values must be submitted to the FTA for approval.
As mentioned before, the rules of the Circular only apply if the option rights are granted to the shareholder(s) of the Issuer, but not if option rights are granted to employees of the Issuer or a related party (other than the parent company).
Principles for withholding tax, income tax and stamp duties
The granting of option rights to shareholders may trigger Swiss withholding tax consequences, stamp duty consequences and, depending on the country of residence of the shareholder, corporate or individual income tax consequence.
Call and put options are considered to have a market value for Swiss tax purposes if certain calculation criteria exist at the moment of grant to valuate these rights (see Circular No. 37). If options are granted by the Issuer to the shareholders against no consideration or against a consideration which is below fair market value, a monetary advantage is granted to the shareholder in the difference between the fair market value and the consideration, if any, paid by the shareholder. The monetary advantage is realised at the moment of grant. In the hands of a Swiss shareholder the monetary advantage received is considered as taxable income from participations, which may, if the requirements are fulfilled, qualify for the participation exemption for companies and/or the partial relief granted to individuals. For the Issuer, the grant of option rights at a price below the fair market value will result in a profit adjustment by increasing the taxable profit of the Issuer in the difference between the fair market value and the price of grant.
If the price for the option right is exceeding its fair market value, then a capital contribution equal to the difference between the fair market value and the option price effectively paid is considered and such contribution will be subject to stamp duty of 1%.
Expenses incurred with the Issuer in connection with the granting, the exercising or the maturity of the options rights are considered to be justified business expenses for the Issuer and are therefore deductible.
If a call option will be exercised, the acquisition costs of the purchased shares underlying the option will consist of the consideration, if any, paid for the option right, the monetary advantage received at the moment of grant of the option right as well as the price paid for the shares at exercise.
Call options will have a different tax treatment from the principles described above if they qualify as pre-emptive rights pursuant to Article 652 b of the Swiss Code of Obligations as well as put options granted in connection with a capital reduction.
Dividend distributions, including any monetary benefits paid by a Swiss company to its shareholders, are, in principle, subject to withholding tax of 35%. This withholding tax obligation also covers the granting of call and put options at a price below fair market value. If Swiss withholding tax is due, Swiss shareholders may either apply the reporting procedure or request for a refund of the withholding tax. For foreign taxpayers, the withholding tax is final, unless a tax treaty can be applied.
Granting of pre-emptive rights in connection with a capital increase
According to Article 652b of the Swiss Code of Obligations every shareholder is entitled in the course of capital increase to the proportion of the newly issued shares that corresponds to his existing participation. This right may be cancelled by the shareholder meeting only for good cause. Thus, if a Swiss company intends to increase its capital, the existing shareholders are granted pre-emptive rights pursuant to Article 652b of the Swiss Code of Obligations allowing them to subscribe new capital in the ratio of their already existing capital investment. Such pre-emptive rights as call options are granted by law against no consideration or at a price below market value.
The granting of pre-emptive rights will not trigger Swiss withholding or income tax consequences if the following two requirements are met cumulatively:
The granting of the option rights takes place in connection with the planned capital increase, that is, must be considered as the mandatory granting of the pre-emptive right within the meaning of Article 652b of the Swiss Code of Obligations to ensure that every existing shareholder may subscribe the proportion of the newly issued shares that corresponds to his existing participation; and
The call options cannot be (re-)sold at a guaranteed price to the Issuer (or parent company or any other related party of the Issuer) and no right for cash compensation (instead of the option) is offered. Cash compensations offered in the course of the granting or the exercising of option rights do, however, not lead to withholding tax consequences (and income tax consequences, if the recipient is a Swiss taxpayer), if the cash payment represents a repayment of contributed capital.
If one of the mentioned conditions is not met, then the tax consequences as described under the section on principles above will arise.
If, under a call option, the exercise price to purchase the shares is significantly lower than the fair market value of the shares (difference of 33.33% or more) then the tax administration will consider the case in the light of tax avoidance.
To the extent that the newly issued shares are paid by the use of distributable reserves of the Issuer, the amount allocatable to the shares paid by the reserves will be considered a dividend, will be subject to Swiss withholding tax of 35% and will, for Swiss tax purposes, be considered as taxable income from participations, which may, if the requirements are fulfilled, qualify for the participation exemption for companies and/or the partial relief granted to individuals.
Call options on treasury shares, which were paid up in the past at nominal value, are considered to be pre-emptive rights which have not yet been granted to the shareholder. As a consequence, such option rights can be granted without any Swiss income tax or withholding tax consequences to the extent the earlier described two requirements are respected. Stamp duty of 1% is due on the nominal amount of such shares at the moment of the creation of the treasury shares as well as at the moment of placement of the treasury shares on a possible premium payment received by the Issuer for such shares.
The granting of call options for shares, which were bought by the Issuer from third parties are treated according to the rules described under the section on principles above.
Granting of call options without capital increase
Under this alternative the Issuer grants call options to its shareholders. The granting of the options is, however, neither based on a decision of the shareholders meeting to increase the capital nor is a capital increase planned. The difference between the fair market value and the price of the options paid by the shareholders is considered a monetary benefit paid by the Issuer to its shareholders. The consequences as described under the section on principles above arise. At exercise, neither trigger Swiss withholding nor will Swiss income taxes be triggered.
Granting of put options in combination with a capital decrease
In light of a planned capital decrease a company may grant put options to its shareholders, either against no consideration or a price below fair market value.
The grant of such put options against no consideration or a consideration below the fair market value will neither lead to withholding nor to income tax consequences if the following three requirements are cumulatively fulfilled:
The put options are granted based on a planned capital decrease and the decrease will effectively be implemented within a considerably short period, that is, it will be decided at the following ordinary shareholder meeting, but not later than one year after the granting of the put options;
The recipients of the put options are exclusively the shareholders of the Issuer; and
The put options cannot be sold at a guaranteed price to the Issuer (or parent company or any other related party of the Issuer) and no right for cash compensation in lieu of the option is offered. Cash compensations offered in the course of the granting or the exercising of the option do, however, not lead to withholding tax consequences (and income tax consequences, if the recipient is a Swiss taxpayer), if the cash payment represents a repayment of contributed capital.
Should one of these requirements not be fulfilled, the following tax consequences arise: the difference between the market value and the price paid at grant for the put option will be considered as a monetary advantage granted to the shareholder and the consequences according to the section on principles above will apply.
If, under the put option the sales price for the shares is significantly higher than the fair market value of the shares (difference of 33.33% or more), then the tax administration will consider the case in the light of tax avoidance.
If the put options are exercised the difference between the exercise price received by the shareholder and the paid-in nominal value will be considered for withholding tax purposes a partial liquidation and withholding tax of 35% is levied on the gross liquidation proceeds, unless the reporting procedure under domestic law or a tax treaty applies. The liquidation proceeds are considered taxable income from participations, which may, if the requirements are fulfilled, qualify for the participation exemption for companies and/or the partial relief granted to individuals.
Granting of put options without capital decrease
Under this alternative the company grants put options to its shareholder without the existence of a decision to decrease the capital.
If it is not the intention to decrease the capital of the Issuer then the granting of such put options against no consideration or below fair market value will lead to the tax consequences as described in the section on principles above. However, if, at a later moment, the exercising of the put options still leads to the obligation of Issuer to purchase its own shares, the rules regarding the acquisition of own shares as described in Circular No. 5 (19/08/1999) must be respected. The difference between the higher exercising price and the lower fair market value is considered for the repurchasing Issuer to be justified business expenses and not a payment of a monetary advantage to its shareholders as the payment above fair market value is based on the obligations resulting from the put options, and not from the participation rights held by the shareholders.
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Rolf is an international tax lawyer focusing his areas of expertise on national and international tax planning, inbound and outbound transactions, especially between the US and Switzerland, corporate restructuring and acquisitions as well as general corporate secretarial services.
burckhardt Ltd. provides its clients and their businesses with comprehensive, tailored advice on national and international tax planning issues and structuring, offers corporate secretarial and notary service, supports clients with professional expertise and broad international experience on restructurings, mergers and joint ventures, advises on inbound and outbound investments and in all matters related to compliance, employment, trade and transport law.