ESOP and Employee stock
Employee stock in Slovakia
We handle employee stock and the entire ESOP process comprehensively through the legal (we propose and draft the ESOP rules), accounting, and tax lens. Thus, clients get an all-inclusive service, including:
- drafting of ESOP agreements;
- drafting of "drawer agreements";
- tax and contribution assessment and design of ESOP structures;
- advice on risk-minimization in the event of a tax audit;
- corporate change enactment;
- ESOP structure establishment using a foreign company.
We have long been involved in the field, providing services and organizing conferences and online training sessions. And since we are still a young company, ESOPs are also of practical interest to us.
In Slovakia, the moment of taxation is the principal ESOP structure-related problem. The present Income Tax Act presumes the generation of a non-cash income and taxation from when the employee acquires the stock. In the case of option plans, this moment might occur sooner.
This concept contradicts the fundamental principle of taxation based on the taxpayer’s ‘ability to pay’. In other words, the acquisition of employee shares is supposed to be taxed at a point in time when neither the employer nor the employee has cash income to be used to pay the tax and contributions.
In some situations, an entrepreneur might look for ways to avoid this moment of taxation. We look for legal ways to set up an ESOP structure on a case-by-case basis to delay the moment of taxation until the actual receipt of cash income, reduce the tax and contribution rate, and minimize the risks in case of a tax audit. Finding a legal and tax-efficient structure is the key to the ESOP framework use.
Otherwise, an entrepreneur is presented with two options:
- avoid using the ESOP structure; or
- create an ESOP structure in a fiscally unsound manner (i.e., illegally).
“Employing” contractors is common in startups. Not only may this be an abusive practice in line with the “Schwarz system” – false self-employment (Labor Law & “Schwarz system”), it may also have negative tax and contribution implications from the point of view of “ESOP taxation”. This stems from the philosophical premise that a taxpayer’s income should be subsumed into the category of activities affected by that income. Thus, in critical situations, the contractor´s acquisition of stock in a company may result in income tax imposition and deduction of health and social insurance arrears in the annual settlement.
The ESOP structure´s ultimate tax and contribution impact depends on several factors:
- The form of cooperation between the contractor and the company providing/brokering the company shares;
- the level of the contractor´s involvement in the company;
- the contractor's occupation outside the company;
- the real value of the company or its current stage of development.
It is relatively common to see the issuance of tokens as a “stake”, representing some value of the platform or company where the employee or contractor is professionally engaged.
These are not just security tokens, but also utility tokens or some derivative thereof, which attracts the potential of future capital income.
The tax and contribution implications of these arrangements depend on the ESOP structure´s setup, i.e., the issuance of tokens and their fate (e.g., disposition on the secondary market) may also be replicated by a subsequent legal “offline” regime. In that case, the tax and contribution regime mirrors that applied in the parallel, legal “offline” world.
There may be a structure where a company issues tokens backed by “phantom” agreements and the income from holding the tokens thus follows the same tax and contribution regime as detailed in the relevant contracts. This does not have to be affected by the tokens´ liquidity on the secondary market.
Cryptocurrencies have introduced a new diversity to the legal and tax world and our role as legal, tax, and accounting advisors is to attach relevant and appropriate legal, tax, and contribution effects to this phenomenon.
A company often first grants or sells stock options to its employees. Then, having met specified conditions, the employee can “convert” the stock option into a real share in the company. There are various derivatives of this:
- selling a stock option to an employee for a nominal price;
- granting a stock option to an employee free of charge;
- selling/granting a stock option to an employee by a foreign company;
- selling/granting a stock option to an employee´s company by a Slovak or foreign company;
- selling/granting a stock option to a contractor - a natural person- by a Slovak or foreign company;
- selling/granting a stock option to a contractor – a legal person - by a Slovak or foreign company;
- selling/granting an ESOP option to a company associating employees and/or contractors by a Slovak or foreign company;
- foreign employees/contractors;
- the moment (options) of share acquisition.
Since our income tax law does not set out rules identifying the tax and contribution frameworks for these types of ESOP structures, we look for analogies in foreign legislation and draw on relevant case law and philosophical concepts in tax law when analyzing the ESOP structures´ tax implications.
The vagaries of the tax and contribution treatment of employee stock ownership is compounded by legal complexity. In several ESOP structures, we deal with a variety of “bad leaver” situations that require a more sophisticated legal and practical approach. This element needs to be attached relevant tax and contribution implications. It is necessary to bear in mind the ever-warped decision-making practice in Slovakia. On the one hand, it is a somewhat protective role of judges in employment disputes that disadvantages employers, on the other, it is time and cost elements.
Therefore, it is necessary to prepare for “bad leaver” situations preemptively in a clear, straightforward, and practically enforceable language and manner.
Examples of employee stock
For more information on employee stock and case studies visit the Highgate Group webpage.
OUR COURSES AND TRAINING
- How can I (efficiently) tax income from securities, derivatives, or cryptocurrencies? Can I avoid taxation altogether?
- Want to get paid through the company, legally and tax-efficiently, as a partner? There are multiple options.
- Is it better to buy an apartment/chalet/securities as a natural or legal person?
- Is a trade license or LLC better for me? What about social insurance contributions? Can I, as a self-employed person, invoice my own company?
- Scaling business abroad, using offshore companies. Can I pay 0% tax abroad?
- How can I prepare a company for a sale or investor entry?
- What are the available and effective options for external Company financing?
- How can I negotiate a good term sheet with an investor?
- What should I watch out for when preparing a shareholders' agreement?
- What are the shareholder dispute resolution options?
- What are the options and advantages of different forms of employee stocks and shares (ESOPs)?
Law & Tax
Tomáš Demo
tomas.demo@highgate.sk
Accounting
Peter Šopinec
peter.sopinec@highgate.sk
Crypto
Peter Varga
peter.varga@highgate.sk
