If you receive employee stock options (ESOP) or restricted stock units (RSU) at work or participate in the Employee Stock Purchase Plan (ESPP) offered by your employer, you should be aware of new CRA rules on withholding taxes. In the past, employers typically did not withhold taxes at the time an employee received or exercised their stock option benefits. Instead, stock option benefits were included in the T4 slips and employees paid any taxes owing at the time they filed their taxes.

In Budget 2010, the Federal Government provided relief for Canadians who elected to defer taxes on their stock options only to find that they owed taxes on phantom profits. At the same time, the Government also repealed the rule that allowed stock option benefits to be deferred to the year of the sale. A little noticed provision in the budget (see Page 356 of the budget document) also required employers to withhold taxes on stock option benefits:

Budget 2010 proposes to repeal the tax deferral election and to clarify existing withholding requirements to ensure that an amount in respect of tax on the value of the employment benefit associated with the issuance of a security is required to be remitted to the government by the employer. This amount will be added to the employer’s remittances of tax withheld at source in respect of all employee salary and benefits, including other in-kind benefits, for the period that includes the date on which the security was issued or sold. These measures will prevent situations in which an employee is unable to meet his or her tax obligation as a result of a decrease in the value of these securities.

The Government provided some time for businesses to adjust their payroll systems to handle withholding taxes on employee stock benefits. My understanding is that starting this year, employers will withhold taxes on stock option benefits. Here’s an example of how it would work. Let’s say you are in the top 46% tax bracket. If you exercise and sell options on 100 shares of your employer, you will be subject to a withholding tax on the value of 23 of those options (assuming 50% of the stock option benefit is taxable).

This article has 16 comments

  1. Speaking as someone who has deferred stock option benefit gains, I think these changes are a good idea. As for the promised relief, there is now an RC310 form to fill out, but I’m still waiting after having sent it in 2 months ago. I’ll let you know if there is any actual relief.

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  3. The Blunt Bean Counter

    CC: I think when you say “the value of 23 of those options”, you meant to say 23%. Employers will be required to withhold tax on stock option benefits net of the 50% stock option deduction (if applicable), so I think you mean that if someone pays tax at 46% and they are entitled to the 50% stock option deduction, the net withholding is 23%.

    A big issue yet to be resolved as far as I know is, that the tax withholding in many cases will be based on unrealized cash stock option gains, yet cash withholdings are due. So how does the employer get the tax withholding from the employee? Do they take it from future salary, request personal funds, or require the sale of some of the related shares?

    I read something recently that there still has not been any guidance provided by CRA, however, I have had no reason to follow up to confirm such.

  4. @Blunt Bean Counter:
    I’m just speculating — I don’t know how this will actually work.

    But I’m wondering if it _might_ work like this: Suppose you want to exercise 100 options with a strike price of $1 and the current market value is $11. So in the example above, the tax bill would be 23% of $1000, or $230. The cost to purchase the options would be $100. Perhaps the employer requires that $330 is provided to exercise these options? This would cover the strike price and the taxes that would be due.

    But there must also be a way to dispose of shares to cover the tax bill as well.

  5. @Michael: I think the withholding requirement is a good idea. It will prevent taxpayers getting stuck with a tax bill they can’t possibly pay.

    @The Blunt Bean Counter: Here’s how it works at my employer:

    – ESPP benefit taxes are withheld from the next paycheck.
    – 46% of RSUs vesting are sold and taxes remitted to CRA.
    – 23% of ESOP benefits exercised are sold and taxes remitted to CRA.

    @Returns Reaper: At my work, here’s how your example would work. The broker will exercise and sell for $1,100. $100 is due to the employer. Out of the $1,000 due to the employee, the broker is asked to withheld $230. The remainder $770 is deposited in the employee’s account.

  6. Everybody I know who have stock options are already making salaries which are well into the high six digits or seven figures, so I don’t think the new tax rules makes much difference to them in terms of whether they’re going to starve or something.

    I wish I could include myself in that category but I have no such complication… 🙁

  7. @Phil: Stock rewards are still common in technology. Even peons like me get them 🙂 And I can assure you that I don’t make anywhere near high six digits.

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  9. Hiya,

    I think this sucks, at least in my situation. My wife went in on ESPP a few years ago… my original thought was when we get the share certificate I would take it to a broker so i could sell half in Dec and half in Jan, thus splitting up the tax a bit… Well she gets a letter from her company telling her about this new law that required the feds to tax at source out of her paycheck even before any $$ has changed hands and any transactions has been made. So she will lose $650 per pay for 2 1/2 months… that is huge for an avg family not making 6 figures!!!! It just doesn’t seem right.. talk about counting chickens before they are hatched!!! Again we will have no extra $$$, just a piece of paper and those blood sucker taxmen will steal $650 per pay!!! How nice!!!! I have heard that some employees are opting out of the plan now to avoid losing so much of their pay… I guess these were designed to nail the rich guys, but the government uncaring hits the little guy even harder…
    thanks MR no taxes Harper!! Bite me!
    (A little venting here)

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  11. 7. Wow! You are definitely a magician. I have always liked to know others feelings and thoughts, but I must say your article is one of the best I have read. And I suggest others to read it. OffShore

  12. With respect to Restricted Stock Units (RSU) I’m still confused. I received RSUs last year and the cash value of the RSUs showed up on my T-4 this year. I’m told when these vest I will be taxed (2/3/4 years). Does this mean I’ll be paying tax on them now and have to pay again when these vest?

  13. At the time of vesting, the x amount of RSU is included as income. I have the sell-to-cover option and taxes were paid. I haven’t sold any remaining RSU. I noticed that the taxes paid from the sell-to-cover is not included in box 22 (income tax deducted).

    Can anyone help me as to where (line or schedule) I should fill up to reflect the taxes already paid?

    • It is now 2013, and I now need Lissa’s questions answered. I have also noticed that the taxes paid on my sell-to-cover option are NOT included in my T-4, but the gross amount of the RSU’s that vested are. This essentially means I will be taxed twice, if I don’t include these taxes somewhere. However, I am not sure where to include them. Please help!

      • Sorry, I sometimes miss replying to a comment.

        I would recommend talking to your payroll department. If payroll is selling a portion of vested RSUs and remitting withholding taxes to CRA, these taxes should be reported on your T4. Point out the error to your payroll department and ask them to issue you new T4s that has the correct amounts in the Income Taxes deducted Box 22 of your T4.

  14. Dan marinangeli

    I elected to defer employee option gains when this was possible. I currently own shares in my employer that resulted from these exercises as well as many other shares in my employer purchased by cash. If I sell some of these shares how do I determine if or how much of the deferred option gains should be taxed. Can I treat the “option shares” as the last shares I sell?