BCTIA Response to Minister of Finance Re: Taxation of Employee Stock Option Plans

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In January 2011, the BCTIA wrote a letter to Honourable Jim Flaherty, Minister of Finance, regarding the taxation of employee stock option plans.

In January 2011, the BCTIA wrote a letter to Honourable Jim Flaherty, Minister of Finance, regarding the taxation of employee stock option plans.

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  • 1. January 14, 2011Honourable Jim Flaherty Sent by Email Jan. 14, 2011Minister of FinanceHouse of CommonsOttawa, ON K1A 0A6Re: Taxation of Employee Stock Option PlansDear Minister Flaherty:On behalf of the BC Technology Industry, we thank the Government of Canada forrecognizing in the 2010 Budget the problems with how stock options are taxed inCanada. That hard-working, well-intentioned, Canadians can find themselves with a taxliability on exercised options which exceeds the value of their equity, illustrates thefundamental problems with how options are taxed. Unfortunately, as companies,particularly small and medium-sized enterprises (SMEs) endeavour to implement theprescribed changes, they are finding that the cure may be worse than the disease.With these changes passing into law, we ask the Government of Canada to keep an openear as they are implemented – particularly the withholding provisions. We urge theGovernment to invite and listen to feedback and concerns from companies trying to becompliant and to watch for the unintended consequences that some of our leadingcompanies are already experiencing.While the system was not perfect prior to the 2010 changes, Canada’s SME’s didunderstand how to navigate the system. For this reason we believe that the countryshould have continued to operate under the old system until the Government of Canadahad more opportunity to fully review the implications of its changes. As entrepreneurs,we want Canada to secure itself as a global leader in the attraction and retention of ahighly skilled workforce. We believe that these changes will impair that objective.To ensure Canada attracts and retains talent, we encourage the Government of Canadato undertake a wholesale review of stock option compensation in order to maximizeCanada’s global competitiveness for the long term.
  • 2. BackgroundFeedback from companies and employees in our industry suggest that there are twofundamental issues that need to be addressed with respect to stock option compensation: 1. Tax Real Gains Instead of Virtual Gains – tax employees when the stocks are finally sold, not when the options are exercised. By taxing stock options twice (once at their exercise and again at their sale), the government is creating an overly complex environment that it continues to band-aid with more administration. 2. Reduce Complex Administration – remove the special rules for each class of company in Canada (CCPC, non-CCPC, public). These special rules are exceedingly complex for companies to understand, and even worse to communicate to employees. The complexity is even greater for firms that switch from one company class to another, as many successful technology firms do as they grow.The Importance of Equity-Based CompensationAccess to capital and talent are key interrelated issues for companies in Canada’stechnology industry. As a knowledge-based industry, Canadian technology firms requirea highly skilled workforce, making attraction and retention of world-class talent criticalto their success.Due to several access-to-capital issues, Canadian technology companies are chronicallyunderfunded, particularly in early and high growth stages. As such, equity-basedcompensation is a key tool for these companies, not only to compensate their foundersand senior employees, but also to attract and retain highly skilled personnel by offeringequity in lieu of cash compensation.To attract and retain highly-skilled talent, Canadian technology SME’s must providecompensation that is competitive with that of large multi-nationals. Using equitycompensation, SME’s can preserve cash without losing or forgoing the required skilledtalent to drive the success of their companies. Larger companies wanting to attract thebest available managerial and technical talent use stock options as an additional attractiontool in this international competition. For employees, equity-based compensationprovides a level of remuneration that replaces foregone wages and potentially provides alevel of return that is commensurate with the risk and commitment of a technology start-up.Impact of the 2010 ChangesFor companies trying to be compliant, the new changes only serve to create moreambiguity and confusion. Worse, there has been little communication from theGovernment of Canada to clarify the situation.As a result, the 2010 changes are creating a number of unintended consequences,particularly surrounding events that change a company’s status. Events such as largeinvestments by foreign investors, and IPO’s, are typically considered to be milestone
  • 3. events in the life of technology companies. However, the confusion surrounding the changes and the uncertainty of the impact on the company has caused at least one BC technology company to shelve its IPO, and other companies to curtail international investment fundraising activities that could lead to the loss of their CCPC status. In addition, several BC companies that were considering introducing stock option plans for their employees have put those plans on hold. For employees, complex rules and taxation scenarios are discouraging employees from taking options and instead are choosing opportunities that offer cash-only remuneration packages. To be an incentive, employee stock option plans must be easy to communicate to employees and must have relatively predictable outcomes. Continued changes to stock options without tackling the fundamental issue of taxing virtual gains are making the situation worse. Final Thoughts Canada is fiscally strong and we can not only afford but have to seize the opportunity to improve our global competitiveness and to address our productivity deficits. Helping Canadian companies (in all sectors) attract and retain the highly skilled workforce needed to support Canada’s economy by revisiting the structural issues surrounding stock option compensation is one important step in that endeavour. We, the undersigned, call upon the Government of Canada to encourage more Canadians to invest in the companies they work for and own, and to help Canadian companies to be strong enough to take on the world and generate export wealth. We want to work with the Government to establish a system that rewards Canadians for working hard, for being entrepreneurs, and for taking risks. On behalf of the BCTIA and our colleagues across BC’s technology industry, we thank you for your consideration of these recommendations. We look forward to working with you in their enactment. Sincerely, Pascal Spothelfer, President & CEOOn behalf of: Scott Edmonds, President & CEO, WebTech Wireless Inc Robert Eisses Ken A. Fielding, President & CEO, Delta-Q Technologies Jim Fletcher, Director, Vision Critical, Recombo Inc., Tyze Paul Gorton, Founder & CEO, Park-Networks Inc. Dr. Christopher Guzy, CTO, Ballard Power Systems
  • 4. Caroline Jellinck, Partner, Odgers & BerndtsonBarry Jinks, President & CEO, Colligo NetworksEric Johnson, IBMMoe Kermani, President & CEO, BYCASTPaul Lindahl, President & CEO, NGrain Corp.Richard MacKellar, Managing Director, Chrysalix Energy Venture CapitalAndrew Marchant, Partner, AccentureRoss McLaughlan, President & CEO, Lignol Energy Corp.Andrew Reid, Founder & President, Vision CriticalJonathan Rhone, President & CEO, Nexterra SystemsHoward Riback, CFO, Ventures West Capital Ltd.Angela Lau, Director, MacDonald, Dettwiler and Assoc.Ralph Turfus, Principal, Arbutus Place InvestmentsWal van Lierop, CEO,Chryaslix Energy Venture Capitalcc:Rt. Hon. Stephen Harper, Prime Minister of CanadaHon. Tony Clement, Minister of IndustryHon. Keith Ashfield, Minister of National RevenueHon. Rob Moore, Minister of State (Small Business and Tourism)Hon. Lynne Yelich, Minister of State (Western Economic Diversification)Members of Parliament