# stock options and EI



## rookie (Mar 19, 2010)

Here is a unique situation which we (my wife and me) are not sure is a good one or not. hope someone can guide us:

my wife is on mat leave until march 2011 and hence on EI. however, the management of her company decided to allow her to encash her stock options by december. we are not sure what the tax or EI implications of that will be. The finance department in the company is saying that the income would be reported in the T4 as employee benefit. here are my questions - will she have to report this income to service canada and will that reduce her EI benefit? or will the income be just added to her EI income affecting only the tax owed?

we are away on vacation for the next couple of weeks and do not have an accountant to consult


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## Cal (Jun 17, 2009)

Time to get one. It will be money well spent.


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## MoneyGal (Apr 24, 2009)

Accountants don't necessarily know how government programs treat income from stock options. 

You should call Service Canada directly - not only is the information they provide free, it is definitive (as in, their word goes; an accountant can only provide an opinion).


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## MoneyGal (Apr 24, 2009)

OK. And to get you started, I've done some preliminary googling on your behalf:

http://www.servicecanada.gc.ca/eng/ei/types/regular.shtml#repay

That link deals with circumstances in which some/all EI must be repaid if your net income is too high. NOTE that these circumstances do NOT affect maternity benefits. 

http://www.servicecanada.gc.ca/eng/ei/information/repayment_2009.shtml

More information on repayments, including the distinction between "regular" and maternity benefits and which category might need to be repaid in some circumstances. (NOTE: maternity benefits are never subject to repayment.)

http://www.servicecanada.gc.ca/eng/ei/types/regular.shtml#calculate

Most important link. Answers the question, can I receive other income and also receive EI payments? I am copying and pasting the most important section below: 

_The amount of your EI benefits can also be reduced if you receive other income during your benefit period, including:

damages and interest for wrongful dismissal;
call-back pay;
a partial payment of an amount owed;
income from self-employment; or
income from a pension plan through the employer, a pension plan for military service or work in a police force, the Canada Pension Plan or the Quebec Pension Plan, or provincial employment plans.

*This income is considered earnings arising from employment and must be deducted from benefits.* You must report any of the income above to Service Canada when you file your benefit claim and in the reports that you submit. _

(Bolding added.) 

What I draw from this is (1) the income must be reported *when it is received* and (2) some/all of *regular* EI (not maternity benefits) *might* need to be repaid IF stock options encashment is viewed by Service Canada as "income arising from employment." 

A Service Canada rep will be able to give you the exact information. You are entitled to appeal any ruling made by Service Canada.


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## the-royal-mail (Dec 11, 2009)

rookie said:


> ... company decided to allow her to encash her stock options by december.


Just because you CAN do something, does not mean that you SHOULD!

Your post says she is ALLOWED (not FORCED) to do so.

Given what you've said about your circumstances, I do NOT think you should do this at this time. You can cash out those options any time. How much money are we talking about here and why the rush to do this now?

I would personally prefer to stick with cookie cutter EI payments. UIC gets very sticky when you give a different answer to their standard weekly questions. You may have the hassle of justifying the extra money, going in person and sitting and waiting in line etc.


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## MoneyGal (Apr 24, 2009)

Well, another point to consider is that the OP's wife is likely in a lower tax bracket THIS year (when receiving EI income) than she would be in a year of regular employment; which means the total tax burden on the exercised options would be lower this year than in a year of regular employment. 

So, there are a couple of things to consider: 

tax rate in this year (versus a future year with higher total income)
impact on EI benefits

It might make more sense to exercise the options next year, after her EI income has expired and when her total taxable income will still be lower than if she had a "regular" year of full employment.


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## Four Pillars (Apr 5, 2009)

MoneyGal said:


> Well, another point to consider is that the OP's wife is likely in a lower tax bracket THIS year (when receiving EI income) than she would be in a year of regular employment; which means the total tax burden on the exercised options would be lower this year than in a year of regular employment.
> 
> So, there are a couple of things to consider:
> 
> ...


Another factor is the value of the options. Assuming the strike price has already been set and won't change - there is no guarantee the options will be worth as much next year. In fact, they might be worthless.


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## MoneyGal (Apr 24, 2009)

...yeah, I considered adding that to my last post. I guess I responded to the original post while presuming the decision to go ahead with cashing them was a done deal.


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## rookie (Mar 19, 2010)

Thanks for your posts. here are more details:

we are looking at a total gain of about 15K. Since their company is not listed, it is under the discretion of the management to decide when to allow the employees to encash their options. This is the first time they are allowing this in the last two years. We are also not sure what happens to the unexercised options if she quits her job. Like FP mentioned, we are not sure what the strike price will be next time.

If EI payments are not affected, then this would be the best time to encash as she will be in a lower tax bracket. But if EI benefits will be reduced, then we will be encashing the options for nothing


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## the-royal-mail (Dec 11, 2009)

EI benefits WILL be affected and you will have to pay tax on the money you receive. It's income.

Don't worry about being pushed into a new tax bracket. For one thing, that's doubtful because you'll be receiving less EI income as a result. But even in the unlikely event that you go into a new bracket, the higher tax rate will only apply to the incremental amount over the dividing line, not ALL of her income. But yes, if her income is expected to go up next year (likely) then this would probably be the best time to take the $15K and suffer the wrath of EI.


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## Four Pillars (Apr 5, 2009)

the-royal-mail said:


> EI benefits WILL be affected and you will have to pay tax on the money you receive. It's income.
> 
> Don't worry about being pushed into a new tax bracket. For one thing, that's doubtful because you'll be receiving less EI income as a result. But even in the unlikely event that you go into a new bracket, the higher tax rate will only apply to the incremental amount over the dividing line, not ALL of her income. But yes, if her income is expected to go up next year (likely) then this would probably be the best time to take the $15K and suffer the wrath of EI.


With all due respect Royal - you have no idea if this is true.

The EI rules for mat & pat leave are different than for regular unemployment. For one thing, you can still get paid by your company while you are off and still collect EI. This includes all regular compensation including bonuses that would have been paid anyways. There is no clawback based on money earned from your regular job that you are taking the leave from.

I agree with MoneyGal that Rookie needs to call service Canada.

I don't know for sure what the answer will be, but I suspect that the cashed stock will not affect her EI.


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## rookie (Mar 19, 2010)

guys,

thanks for your suggestion to call service canada. the first time i called, the person was not able to conclusively tell anything. he had difficulty understanding what stock options were. so i called again hoping to find a more knowledgable guy and i got lucky. he mentioned that stock options would be treated as capital gains and hence will not affect EI. however, i found that the gains would be taxed at the highest marginal rate of 46% and hence it would not matter whether she exercised the options while on mat leave or not...


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## Four Pillars (Apr 5, 2009)

rookie said:


> guys,
> 
> thanks for your suggestion to call service canada. the first time i called, the person was not able to conclusively tell anything. he had difficulty understanding what stock options were. so i called again hoping to find a more knowledgable guy and i got lucky. he mentioned that stock options would be treated as capital gains and hence will not affect EI. however, i found that the gains would be taxed at the highest marginal rate of 46% and hence it would not matter whether she exercised the options while on mat leave or not...


Why are they taxed at 46%? Is that her marginal rate or is that some special rule?

It's good to know that the EI is not affected (as I suspected), at least now you have the option of cashing them early (or not).


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## CanadianCapitalist (Mar 31, 2009)

Four Pillars said:


> With all due respect Royal - you have no idea if this is true.
> 
> The EI rules for mat & pat leave are different than for regular unemployment. For one thing, you can still get paid by your company while you are off and still collect EI. This includes all regular compensation including bonuses that would have been paid anyways. There is no clawback based on money earned from your regular job that you are taking the leave from.
> 
> ...


+1

My spouse was on mat leave last year and received mat leave pay from work *and* collected EI benefits. I'm guessing here but Rookie's wife's benefits will likely be treated the same way.

Whether OP should cash in the options is an interesting question. The default answer is that it isn't a good idea to have your financial assets riding on the fortunes of your employer.

It is worth considering whether to leave a bit of options on the table. Who knows, there may be a lottery ticket in there!


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## MoneyGal (Apr 24, 2009)

rookie said:


> however, i found that the gains would be taxed at the highest marginal rate of 46% and hence it would not matter whether she exercised the options while on mat leave or not...


This doesn't add up, unless your wife is in a very high income bracket despite being on mat leave. 

Deferred security options benefits (this is how CRA refers to them) are taxed as *ordinary income* and subject to a special "security option deduction" (line 249 on your tax return). 

In a nutshell, half of the benefit she receives from cashing the option is included in her taxable income for the year. 

If she is already in the top bracket, then yes, one-half of her option benefit *could* be taxed at 46%...but she'd have to have taxable income in excess of $100K for the year.


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## MoneyGal (Apr 24, 2009)

The other thing is that no one apart from whoever prepares your wife's taxes will know how much tax will be payable on the options benefit at tax time. I don't know how/where you would get the info in advance about what rate of taxation the options would be subject to.


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## kcowan (Jul 1, 2010)

rookie said:


> guys,
> 
> thanks for your suggestion to call service canada. the first time i called, the person was not able to conclusively tell anything. he had difficulty understanding what stock options were. so i called again hoping to find a more knowledgable guy and i got lucky. he mentioned that stock options would be treated as capital gains and hence will not affect EI. however, i found that the gains would be taxed at the highest marginal rate of 46% and hence it would not matter whether she exercised the options while on mat leave or not...


Maybe you didn't get so lucky the second time you called. Options can be treated as regular income if the amount is large compared to her normal salary. But it almost never is. I think you need a tax consultant.

How much are we talking about here anyway?


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## MoneyGal (Apr 24, 2009)

Just ask for a supervisor at Service Canada. If they don't know what they are talking about, they are *supposed* to kick the question up to a specialist. 

(I'd do that, at any rate, before I paid for advice from a tax consultant. The "average" tax consultant is *not* going to know how EI treats options benefit income for the purposes of EI eligibility, because _this has nothing to do with taxation_.)

Lots about this thread does not make sense to me. 

Options are NOT treated as capital gains. Options benefits are ALWAYS taxed as income, and they are subject to a special inclusion rate (which is designed to have any gains treated *like* capital gains. But options benefits are NOT capital gains. Want proof? Here's the proof: you can't deduct any losses.) 

EI may take the view that options income is treated like capital gains (presuming that capital gains do not affect EI eligibility). That seems to be what the second person said at Service Canada. 

The OP is trying to figure out the impacts of his wife's stock options benefits on her total income (after taxes) for the year. This involves:

- determining the impact (if any) on her EI benefits (both parental and maternity) for 2010

- projecting the total tax payable on the options benefit

These are two different issues which require two different sets of expertise.


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## Square Root (Jan 30, 2010)

I know a fair bit about options. Generally Money Gal has it right except when she referrs to "deferred" option gains. These are a special class of option realized gains that until a year or so ago could be deferred for tax. This is no longer doable so would not be a factor here. Option gains are indeed employment income but taxed at the same rates as cap gains. Usually if you quit you forfeit your uncashed options. That's part of the reason they are granted- as a hold on you. Vesting is often over a 3-5 year period. The decision to cash options will seldom hinge on tax rates as ultimate gain is much more leveraged to the prospects of the company, exercise price, and time left to expiry.


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## MoneyGal (Apr 24, 2009)

My apologies. Strike the word "deferred" from my earlier post and it is correct. 

A nitpick-y note: stock options benefits are not treated as capital gains and it is incorrect to say that they are "taxed like capital gains." They are taxed as income and GAINS ONLY are subject to a special inclusion rate. Losses on options are not deductible - losses are not treated like capital losses.

Coming back to say upon re-reading your post, SR, I see that you did not say that options are taxed like capital gains. I am feeling exceptionally grumpy today. Also, I have had tax and financial clients in the past who were flabbergasted to realize their losses on ESO could not be deducted, so I guess I have felt since that time that it is important to be clear about how ESO income/losses are actually taxed.


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## Square Root (Jan 30, 2010)

rookie said:


> Thanks for your posts. here are more details:
> 
> we are looking at a total gain of about 15K. Since their company is not listed, it is under the discretion of the management to decide when to allow the employees to encash their options. This is the first time they are allowing this in the last two years. We are also not sure what happens to the unexercised options if she quits her job. Like FP mentioned, we are not sure what the strike price will be next time.
> 
> If EI payments are not affected, then this would be the best time to encash as she will be in a lower tax bracket. But if EI benefits will be reduced, then we will be encashing the options for nothing


If the company is not listed how will the cash out price be determined? Now and in the future. Does anyone know if this fact (private co) changes the tax treatment?


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## Square Root (Jan 30, 2010)

MoneyGal said:


> My apologies. Strike the word "deferred" from my earlier post and it is correct.
> 
> A nitpick-y note: stock options benefits are not treated as capital gains and it is incorrect to say that they are "taxed like capital gains." They are taxed as income and GAINS ONLY are subject to a special inclusion rate. Losses on options are not deductible - losses are not treated like capital losses.
> 
> Coming back to say upon re-reading your post, SR, I see that you did not say that options are taxed like capital gains. I am feeling exceptionally grumpy today. Also, I have had tax and financial clients in the past who were flabbergasted to realize their losses on ESO could not be deducted, so I guess I have felt since that time that it is important to be clear about how ESO income/losses are actually taxed.


Not sure how you would realize a loss on ESO's?


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## CanadianCapitalist (Mar 31, 2009)

MoneyGal said:


> My apologies. Strike the word "deferred" from my earlier post and it is correct.
> 
> A nitpick-y note: stock options benefits are not treated as capital gains and it is incorrect to say that they are "taxed like capital gains." They are taxed as income and GAINS ONLY are subject to a special inclusion rate. Losses on options are not deductible - losses are not treated like capital losses.
> 
> Coming back to say upon re-reading your post, SR, I see that you did not say that options are taxed like capital gains. I am feeling exceptionally grumpy today. Also, I have had tax and financial clients in the past who were flabbergasted to realize their losses on ESO could not be deducted, so I guess I have felt since that time that it is important to be clear about how ESO income/losses are actually taxed.


Actually, in past years you could elect to defer ESO income to a future year of disposition. That was changed in just the last budget. The reason: too many tech employees exercised stock options in high-flying tech companies, held on to the shares and elected to defer gains to future years. 

Then the stocks crashed and the companies went bankrupt or got taken over and forced a disposition at much lower prices. The result: they got stuck with a huge income tax bill because they owed taxes based on the price at which they exercised the options. They have an offsetting capital loss but as MoneyGal points out, you can't offset stock option gains against capital losses.

Just as a side note: the Federal Government changed the rules around 2000 to allow stock option gain deferral just in time to ensnare a lot of people in this mess.


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## CanadianCapitalist (Mar 31, 2009)

Square Root said:


> Not sure how you would realize a loss on ESO's?


If the option strike price is more than the stock price, why would you even bother to exercise the option?


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## Dana (Nov 17, 2009)

MoneyGal said:


> I have had tax and financial clients in the past who were flabbergasted to realize their losses on ESO could not be deducted, so I guess I have felt since that time that it is important to be clear about how ESO income/losses are actually taxed.


Why did your clients exercise their options if the options were not in the money? Did they do it because they thought it would generate a capital loss that they could use to offset a gain?


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## Square Root (Jan 30, 2010)

CanadianCapitalist said:


> Actually, in past years you could elect to defer ESO income to a future year of disposition. That was changed in just the last budget. The reason: too many tech employees exercised stock options in high-flying tech companies, held on to the shares and elected to defer gains to future years.
> 
> Then the stocks crashed and the companies went bankrupt or got taken over and forced a disposition at much lower prices. The result: they got stuck with a huge income tax bill because they owed taxes based on the price at which they exercised the options. They have an offsetting capital loss but as MoneyGal points out, you can't offset stock option gains against capital losses.
> 
> Just as a side note: the Federal Government changed the rules around 2000 to allow stock option gain deferral just in time to ensnare a lot of people in this mess.


Agree with these facts. I was luckier than the high tech guys. I exercised and held the shares electing to defer the tax. This was hughly beneficial to me.Collected divs all the way and the stock has more than doubled. I did this at the maximum level for the whole period 2000 till 2009. These will be the last shares I sell. Another interesting tax rule is that you can exercise and hold for a short period and when selling the shares are treated as a separate class and need not be averaged in with any other like shares you may own. I think the short period is 30 days.


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## MoneyGal (Apr 24, 2009)

Dana said:


> Why did your clients exercise their options if the options were not in the money? Did they do it because they thought it would generate a capital loss that they could use to offset a gain?


For the reasons that CC outlined. I was not involved in the transactions; just dealing with the aftermath.


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