When should an employee share scheme offered by a "start-up" be taxed?

The ESS rules are intended to tax the value of company shares that are either gifted or acquired at a discount in connection to employment.

Generally, the taxing point for an ESS is the date the shares are acquired by the employee. IRD is concerned that for start-ups that offer an ESS the current taxing point results in non-compliance and an under-collection of tax.

IRD identifies two factors that influence the above issue. These are the difficulty to value a start-up company, and the lack of liquidity in the company to cover the ESS liability.

For these reasons IRD has proposed a voluntary deferral of the taxing point. Some suggestions for a potential deferred date are when the start-up makes an initial public offering, when the shares are sold by the employee, or when the shares are cancelled.

A deferred taxing point may assist the company to provide an accurate company valuation and improve compliance.

One concern is that assuming the start-up is successful, and the company shares have appreciated significantly, a deferred taxing point risks a higher tax bill than if the employee was taxed on the date the shares were acquired. On the other hand, if a start-up fails no ESS income may arise if the taxing point is deferred.

When it comes to the tax rules for start-ups and ESS arrangements finding the right balance between incentivising economic growth and the need for reasonable tax collection will likely remain a priority for IRD.

ESS compliance can often appear more burdensome for employers and employees than they are worth, however when used properly can be an effective incentive. If you have any questions about offering an ESS or shares that you have received from your employment, please get in touch with one of the team.