German Tax Aspects of Employee Share Plans: Taxation of ESOPs and VSOPs

Employee share plans have become a prevalent form of compensation in global organizations. Particularly in Germany, with its robust economy and active international business landscape, the taxation of these plans, notably Employee Stock Ownership Plans (ESOPs) and Variable Stock Option Plans (VSOPs), has significant implications for employers and employees alike. Especially German startups use such programs to attract new employees.

In this piece, we will explore the German tax aspects of these plans, outlining their benefits, tax implications, and the potential risks associated with cross-border scenarios.

Mitarbeiterbeteiligungsprogramme (Employee Share Plans)

Employee Share Plans, or Mitarbeiterbeteiligungsprogramme in German, are designed to align the interests of employees with those of the company. By providing employees with an ownership stake or the opportunity to buy shares at a favorable price, companies motivate their workforce to contribute to the company’s long-term success. There are several types of share plans, but in this context, we’ll focus on ESOPs and VSOPs.

ESOPs (Employee Stock Ownership Plans)

ESOPs are plans that allow employees to own shares in their employing company. There are two main ways this can be achieved: either by the company providing shares for free, or by the company offering shares for purchase at a discounted rate.

In Germany, if an employee receives shares for free or at a subsidized price, this is considered a monetary benefit, and hence, it becomes taxable. The taxable amount is the difference between the market value of the shares at the time they are granted and the amount the employee pays for them.

However, Germany included a tax rule in their tax code to prevent such dry income. If the conditions of the rule are met, employees can tax their gain at a later stage, e. g. when the shares are actually sold.

VSOPs (Virtual Stock Option Plans)

VSOPs are a virtual stock options plan. The employees do not become actual shareholders but could benefit from a liquidation event like shareholders. VSOP can save administrative effort.

In Germany, a taxable event usually occurs at the time of the liquidation event, not when the option is granted.

German Tax Challenges with ESOPs and VSOPs

When issuing or exercising ESOPs or VSOPs in Germany, companies and employees need to consider various tax implications:

  • Valuation of shares: Properly determining the market value of shares is crucial to avoid any tax disputes. Especially for private companies, a well-documented valuation process is essential.
  • Withholding tax obligations: Employers may have an obligation to withhold tax at the source, i.e., directly from the employee’s paycheck when the taxable event occurs. This process needs to be well understood and managed to ensure compliance.
  • Timing of taxation: As mentioned earlier, the taxable event for ESOPs typically occurs when the shares are granted, whereas, for VSOPs, it’s when the options are exercised. This distinction can lead to planning opportunities or pitfalls. It should also always be tried to avoid dry income of employees when issuing ESOPs.
  • Tax rate on disposal: When employees later sell the shares they acquired through ESOPs or VSOPs or a liquidation event arises , this usually constitutes a taxable event. The tpye of income and the tax rate for German tax purposes can then vary depending on the individual option.

Risk of Double Taxation in Cross-Border Cases

For employees who work in multiple countries or move from one country to another, the risk of double taxation becomes very real. Both the country where the employee works at the time of receiving the share-based compensation and the country where the employee resides when selling the shares might claim the right to tax the same income.

Germany has double taxation treaties with many countries, which are designed to alleviate such issues. However, navigating these treaties requires a deep understanding of their provisions and often the involvement of tax experts.

Legal Certainty Only with Tax Consultation

Given the complexities surrounding the taxation of ESOPs and VSOPs in Germany, companies and employees are strongly advised to consult with tax professionals when designing, implementing, or exercising these plans. Proper consultation not only ensures compliance with tax regulations but also can result in significant tax savings through effective planning.

GHS is there to help you. Please feel free to contact us.