03 September 2011

Employee Stock Purchase Plan Part 2 - Employee: 0, Government: 1


In my previous post on differing implementation of Employee Stock Purchase Plan, I quoted on an amendment in Malaysia taxation system on ESPP being the probable reason behind the change in the determination of applicable stock purchase price and date from Scenario 1 to Scenario 2.


Quoting ChampDog's original posting on this, lets assume the following constants.


Your company practises Scenario 1
Subscription price: $30
Subscription price less 15% discount: $25.50
Purchase (subscription) period last trading day closing price: $50
Number of shares purchased: 50 units


Previous Tax Scheme for ESPP
Taxable gain is the total discount in purchasing the shares. This is straightforward.
In this case: (30-25.50) x 50 = $225


Current Tax Scheme for ESPP
Taxable gain takes into account the purchase period last trading day closing price, AND the actual discounted purchase price.
In this case:  (50-25.50) x 50 = $1,225


Regardless whether you realize your capital gain (sell the shares) or not, you will be taxed upfront for the paper gain. This may not appear on monthly pay slip but it will show in the EA form.
However, we knew that capital gain is not taxable in Malaysia, so isn't this just plain idiotic? 


Abso-fucking-lutely



And what if the share price drops a lot after the purchase date, and you are still holding onto your shares purchased via ESPP? Doesn't matter, LHDN already locked onto your $1,225 worth of taxable income.
If so, it makes ESPP much less an attractive, especially if you plan to hold onto your stocks for long period, and the share is prone to price drop in the short term. It is very likely that you will be taxed more in this case for the Year of Assessment in question. Of course, if the share price appreciates further after that, you will feel less of an impact.


In the same posting at Journey to Become Financially Independent, financial consultant HS Ooi explained this well in his comments to this.


The government is finally getting smarter in catching up with the loophole of ESPP. It shows that how much lost revenue the government had suffered in the past!


In the past, when the government was taxing the "profit" of 15% subscription price discount enjoyed by employees, the government treated the discount as benefits received by employees. However, they forgot to take into consideration of "market gain" enjoyed by employees. You may argue that the market gain is a capital appreciation which shouldn't be taxed by the government. However, who is actually giving the employees the "market gain"? Is it truly market gain or employees compensation in the form of market gain?

If a company is giving out ESPP at a lower price of the offering window, in an upward market, the company is actually have to "compensate" employees for the gain. You haven't actually owned the stocks yet but you are able to buy the stocks at a lower price (plus 15% discount). The company is selling you the stocks at lower price when market price is higher at closing of the offering window. So, by definition, you are receiving "extra benefits" from the company. You are not getting capital appreciation from the stocks you owned. By taxing you based on the average price on the window closing day, the government is maximizing their tax revenue, which is a smart move by them. :-)





Key takeaway - LHDN screwed us big time. No surprise, though.

2 comments:

  1. Maybe it is cheaper to buy stocks thru open market. No capital gain :P

    The 15% discount really don't help you out. Hence buying ESPP really screws your tax bracket especially when the market rises up during the last day of the trading window and drops like crap after that.

    So don't buy?

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  2. Like ChampDog mentioned in his post, you do a quick sell after company bought it for you thru ESPP. Not worth to hold long, just realize the profit ASAP. But I believe there is a 'cool-off' period after the shares are credited into your ESPP stocks account - a week or two before you can sell or can actually see the shares in that account. Also, those who enrol can set a reminder 2 weeks before the purchase period last trading day. Pull out your money from ESPP to be refunded back to you at the next pay cycle if the current price/trending at that time is not worth it in terms of risk/reward (possibility of dropping like you said).

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