Business: why kill employee share schemes?

by 21 May 2009

The Government’s stated objective of boosting the availability and take up of employee share schemes by low and middle income earners could come to a halt because the announced changes to Australia’s employee share scheme rules in the Federal Budget will have the opposite effect, according to KPMG.

The Federal Budget has taken the executive remuneration debate to the extreme, KPMG says, by changing the rules governing employee share schemes.

In future, all employees will be taxed when they are granted shares or options. The only exception will be those employees earning less than $60,000, who will be able to claim a $1,000 tax exemption provided the plan is qualifying.

The Government proposes to change the rules that currently allow participants in employee share schemes to pay the tax on the discounts on shares or options received at the time they are able to sell the shares or options. The Government’s proposed change will not encourage employers to offer employee share schemes to lower and middle income earners.

The changes are surprising because the current tax laws operate so the employee pays tax when they become entitled to sell the shares, said KPMG equity based compensation partner, Martin Morrow, and this is because it is not until that time the employee has access to the cash needed to pay the tax.

“Employees are offered participation in share schemes as an incentive, and because it gives them the same ownership rights as a shareholder,” he said.

“The main objective has never been to reduce tax. By making these changes, it is removing the ability for employees to receive a stake in the company they work for as part of their remuneration, and diminishes any sense of alignment and ownership.”

Shareholders will be disappointed with this drastic change, especially in light of the enquiry the Federal Government has recently asked the Productivity Commission to undertake in relation to executive pay, according to Morrow.

“One of the objectives of the Productivity Commission enquiry is to investigate how executive remuneration can best be aligned with the interests of shareholders and the community,” he said.

“It is difficult to see how that alignment could be better achieved than by providing executives and all employees with the right to acquire shares in the company they run, which they can exercise if they meet suitably challenging performance targets.”

However, if the executive has to pay tax on the value of the right some years before they can ever become entitled to exercise it, then they will not accept remuneration in that form and boards will have to find some other way of trying to align executive and shareholder interests, he said.

A much more effective way to address any concerns about revenue leakage, according to Morrow, would be to remove the ability of employees to pay tax at the time of grant, and align the timing of the tax payment with the sale of the shares or options, at which time PAYG should be withheld.

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