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The Employee Ownership Update

Corey Rosen

June 21, 2001

(Corey Rosen)

Accounting Bodies Push for Reporting Option Costs

Most members of the International Accounting Standards Board favor an international standard that would require companies to show the cost of options as a charge against current income, much as the U.S. Financial Accounting Standards Board (FASB) proposed to do in the 1990s. Board members acknowledged that it would require a united front to make these changes, as countries not adopting the rules would have a competitive advantage. There was unanimous support for moving ahead on a project to evaluate how to establish such a standard, but no immediate action is expected.

In the U.S., FASB proposed requiring companies to use a formula, such as Black-Scholes, to estimate the present value of outstanding options and report that as a charge against current earnings. The proposal generated intense opposition and a threat of Congressional action, something unprecedented for the accounting body. As a result, companies are now only required to report a charge in their footnotes. International opposition may not be as fierce because option plans play a less significant role in most other countries in both executive and broad-based compensation than they do in the U.S. The IASB cannot impose standards on member countries, but there would be considerable pressure to conform to international norms.

IRS Allows Transitory Distribution to IRA in an S Corporation ESOP

An unpublished IRS private letter ruling has concluded that an S corporation ESOP can make a distribution of company stock to a participant's Individual Retirement Account (IRA) without breaking the S election. S corporation rules prohibit an IRA from owning company stock, but practitioners have argued that if the IRA immediately resells the distributed stock to the company or the ESOP, then it cannot practically be considered to have owned the shares. By allowing this kind of transaction, practitioners have argued, the IRS would save the extra hassle of distributing stock to the employees, which would then be sold back to the company or ESOP, with the proceeds put into the IRA.

The IRS has agreed with this argument, concluding that no useful tax purpose is met by requiring the extra step. Companies will have to monitor their distributions, however, so that no more are made on any one day than would be required to stay under the 75 shareholder limit for S corporations.

Ireland Creates Incentives for Broad Options

Under a new Irish law, the spread on stock options that are available to all employees on similar terms (with the exception that up to 30% can be made available to key employees certified by an audit to be essential to the company) will now be taxed at only 20% instead of 42%. Taxes are due on sale. The sale date must be at least three years after grant. Ireland is the first country to lower tax rates specifically for broadly based employee stock option plans.

France Eases Option Taxation

Stock options qualified under requirements of French law are now eligible for improved tax treatment. The spread on shares sold within four years of the grant date continue to be subject to ordinary income tax and employer and employee social and other taxes, all of which can add up to most of the gain. Shares sold between four and six years after grant or more than six years after grant but less than two years after exercise are subject to a lower income tax on the spread and no social taxes. Shares held longer than six years after grant and more than two years after exercise are taxed at an even lower rate (26% on the first one million French francs and 40% on the amount above that). Capital gains taxes are due on gains after exercise regardless of the holding period.

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