10 March 2000 External T.I. 2000-0004525 - STOCK OPTIONS AND INSTALMENTS

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues: Rationale for instalments based on inflated value of income in year employee stock options are exercised.

Position: Explained three methods to calculate instalments due in a year, only one of which involves an estimate of income based on future value of stock option benefit.

Reasons: Interest and penalties only due if estimate method used and results in short-fall; 2000 Budget provides tax deferral for certain amount of employee options for listed public securities.

XXXXXXXXXX 2000-000452
S. E. Thomson
March 10, 2000

Dear XXXXXXXXXX:

Re: Stock Options and Instalments

This is in reply to your letter of January 5, 2000 which was forwarded to us by the Collections Division at the Toronto Centre Tax Services Office. In your letter, you ask why tax instalments in a year are based on the value of a stock option benefit, when the amount of the benefit to be realized in the year is difficult to predict. You also ask why stock options of public companies are taxed when exercised, rather that when the shares are sold.

We are able to offer the following general comments on the relevant provision of the Income Tax Act, which may apply. Please note that these comments are general in nature, and may or may not apply in your situation. As such, these comments are not binding on the Canada Customs and Revenue Agency (the "CCRA").

Under sections 156 and 156.1 of the Income Tax Act, individuals are required to pay instalments of tax by March 15, June 15, September 15, and December 15 where the individual's net tax owing for the current year, and either of the 2 preceding taxation years, exceeds $2,000 (residents of Quebec are subject to a lower threshold reflecting the dual tax collection system for that province). Note, however, that instalments are not required where this criteria is met for the first time in the current year.

The amount of the instalments may be calculated using one of three methods. The first method calculates instalments based on an estimate of the net tax owing for the current year. The second method calculates instalments based on actual net tax owing for the immediately preceding year. The third method calculates instalments based on a combination of the net tax owing for the second preceding year and the immediately preceding year.

Pursuant to subsection 161(4.01) of the Act, where a taxpayer makes instalments in accordance with either the second or the third method, no interest or penalty will be applied even if the actual net tax owing in the current year exceeds the instalments made. In addition, where the CCRA has sent an instalment notice to the taxpayer for the current year, and the taxpayer makes instalments in accordance with the instalment notice, no interest or penalty will be applied even if the actual net tax owing in the current year exceeds the instalments made.

However, where the taxpayer makes instalments based on an estimate of the current year net taxes owing, interest (and possibly penalties) will apply where the instalments are late or deficient.

You outline in your letter that your net tax owing for the current year (1997) was substantially higher than in prior years because you exercised some stock option in the year, and it was difficult to estimate the amount of instalments to pay because you could not predict the market value of the shares.

Since the amount of net taxes owing in a year may indeed be difficult to predict, taxpayers are welcome, in order to avoid interest and penalty, to use either of the second or third methods as outlined above, or to make instalments according to the instalment notice. As noted above, where 1997 was the first year that your net tax owing exceeded $2,000, you were not required to make instalments for 1997.

A description of the instalment methods available to you is contained in Paying Your Income Tax by Instalments (IT - Income Tax P110) which is available from your local tax services office or at the following website: http://www.ccra-adrc.gc.ca/E/pub/tg/p110eq/p110eq.html

In response to your second point, for public corporation employee stock options, benefits are taxable at the time the option is exercised on the difference between the value of the shares when acquired and the price paid for the shares. In other words, the tax is due when the shares are acquired. As you have pointed out, this may result in the taxes being due before any cash is realized.

The 2000 federal budget proposes to allow eligible employees to defer the income inclusion from exercising eligible stock options for publicly listed shares until the disposition of the shares, for options exercised after February 27, 2000. There will be a $100,000 annual limit on the amount of options eligible for deferral. Details of these proposals have not yet been released in draft legislation.

We trust that we have been of some assistance.

Yours truly,

P. Spice
for Director
Financial Industries Division
Income Tax Rulings Directorate