Informal tax practice regarding stock options and personal service companies now prohibited
On 13 April 2017, a circular letter was issued (in Dutch and French by the Belgian General Tax Administration that puts an end to a discussion that had been going on for some time about the reduced valuation of stock options or warrants granted to persons who use what are known as personal-service companies (PSCs) to deliver services.
While the informal practice of applying the lower of two valuation methods to the benefit in kind/fringe benefit is now outlawed, the Minister of Finance implicitly tolerates the practice for the past.
1. The generally beneficial up-front taxation of stock options and warrants received by Belgian tax residents
In Belgium, stock options or warrants are a frequently used employee benefit. On the one hand, they constitute an attractive incentive aligning the interests of personnel and shareholders, while on the other they make it possible to reduce the tax and social-security burden from remuneration and fees paid to employees, directors and managers, and consultants.
Stock options or warrants granted in the framework of a taxable professional activity that is carried out in Belgium are in principle taxable as a benefit in kind in personal-income or non-residents tax.
For non-listed stock options or warrants, the law of 26 March 1999 provides a beneficial valuation of the benefit in kind. Generally speaking, the benefit is equal to a lump-sum 18% of the value of the relevant stock at the moment the option or warrant is granted. If some conditions are fulfilled, the benefit is reduced by half, to 9% of the value of the stock.
Finally, no social-security contributions are due on stock options or warrants eligible for the above-mentioned beneficial taxation.
However, all that glitters is not gold. The above-mentioned tax treatment is a gift only where the value of the stock increases and eventually capital gains exceeding the amount of the lump-sum benefit are realised on the acquired shares. If this is not the case, or if the options or warrants are forfeited before they can be exercised (for instance because the employment or consultancy agreement is terminated), the up-front taxation results in a net loss to the beneficiary.
2. Personal-service companies and stock options
It is not uncommon for Belgian managers and consultants to establish a limited-liability company, generally referred to as a personal-service company (PSC) or a management company, which then delivers services to the client. To the extent the company’s profit is high enough to cover the additional expenses and is not immediately forwarded as remuneration to the individual in question, this practice makes it possible to exploit the difference between the corporate-tax and the personal-tax rates, not to mention that no social security is due on payments to the PSC. Ultimately, the goal is to distribute the company’s profits to the individual’s private wealth at a low-dividend withholding-tax rate free from social-security contributions. That approach also makes it possible to set up interesting private pension schemes.
Because the service agreement is concluded between the client and the PSC, and since there is, strictly speaking, no relationship between the manager or consultant and the client, stock options or warrants should be granted to the PSC. Because the law of 1999 does not apply to beneficiaries that are companies, the beneficial valuation cannot be applied and the actual value of the option or warrant is taxable corporate profit. However, that should not cause any major problems, since it is perfectly possible for the PSC to immediately forward the stock option to the manager or consultant, thereby deducting again the acquisition value of the option. In short, this back-to-back operation is tax-neutral for the PSC and still makes it possible to apply the beneficial lump-sum valuation of the benefit-in-kind at the level of the individual behind the PSC.
3. The issues: direct grants and application of the 9% lump-sum valuation
In accordance with a long-standing informal practice, options or warrants were granted directly to the person behind the PSC. Within the framework of this practice, there was the question of what valuation rate should be used— 18% or 9%? One of the conditions for the use of the 9% rate is that the option or warrant must relate to stock of the company for whose benefit the professional activity is being carried out by the beneficiary or to the benefit of companies that participate directly or indirectly in the former company. Bearing in mind that the options or warrants typically relate to stock of the client or a parent company of the client, this condition is not fulfilled at the level of the individual director/consultant but only at the level of the PSC. The conclusion is that the 18% rate, not the 9% rate, is applicable.
Confronted with this inconvenience, the Belgian General Tax Administration was contacted on a case-by-case basis. On several occasions, the tax administration confirmed the use of the 9% rate, but only where the options or warrants are granted to the “permanent representative” of a PSC who is appointed as a director or manager, or as a member of the management committee, the management board or supervisory board of the company for whose benefit the professional activity is being carried out. Indeed, in that case, according to Article 61, paragraph 2, of the Belgian Companies Code, the permanent representative must meet the same conditions and shall be liable according to civil and criminal law as if they carried out the mandate in their own name and on their own behalf, without prejudice to the joint and several liability of the legal person they represent, and the latter may dismiss their permanent representative only by appointing a new one.
At the same time, the Belgian Service for Advance Decisions in Tax Matters, the so-called Ruling Commission, issued binding tax rulings that explicitly required the intervention of the PSC in the granting of options or warrants (the back-to-back operation) and denied the application of the 9% rate.
4. Circular letter 2017/C/21 of 13 April 2017
At the end of 2016, the financial press echoed the informal practice, referring to the 9% valuation as an unexpected gift to PSCs. This led to public condemnation of the practice by a number of tax advisers, the president of the Ruling Commission and finally also by the Minister of Finance, which announced to have his administration issue a circular letter, which was published on 13 April 2017.
The circular begins by reiterating the principle that halving the valuation of the benefit in kind (the 9% rate) requires that the option or warrant relate to stock of the company to the benefit of which the professional activity is exercised by the beneficiary or to the benefit of companies that have a direct or indirect participation in the former company. It goes on to confirm that, from a legal and tax viewpoint, the PSC delivers the services to the client, while the manager or consultant carries out their professional activity for the benefit of the PSC and not of the client. Therefore, the condition for halving the benefit is not fulfilled, whether or not the PSC is a board member of the client.
While it emphasises the difference in the relationships between the PSC and the client on the one hand and, on the other, between the PSC and the manager, the circular letter does not explicitly require the intervention of the PSC (the back-to-back operation) in order for the options or warrants to be granted. This may indicate that the tax administration will continue to tolerate direct grants. It is unclear whether the Ruling Commission will align its position with that of the central tax administration. Future rulings will probably shed light on this.
Finally, the circular states that it applies only to stock options or warrants that are granted after the date on which it was published: 13 April 2017. This may be interpreted as grandfathering the application of the 9% rate for options or warrants granted to managers/consultants who use PSCs no later than 12 April 2017. Beneficiaries with PSCs that have been granted options or warrants in previous years and that have applied the reduced valuation should now be able to sleep easy.
MaximeVermeeschAttorney at law Associate
Maxime Vermeesch is a member of the Loyens & Loeff International Tax Services Practice Group in Belgium and a member of the German Desk. He focuses on Belgian and international tax law.T: +32 2 773 23 76 M: +32 476 25 29 06 E: firstname.lastname@example.org