The Taipei High Administrative Court rendered the 107-Su-905 Decision of December 27, 2018 (hereinafter, the “Decision”), holding that in case of an employee’s exercise of a warrant with the acquisition of stock as the exercise timing, the positive difference between the closing price of the target stock on the exercise date and the subscription price of the stock shall be the income, and taxation on such basis does not violate the principle of the ability to pay.
According to the facts underlying this Decision, the Plaintiff was the Chief Research Officer of Company A. Without applying to the Ministry of Economic Affairs for the issuance of stock warrants, Company A granted a stock warrant for 800,000 shares to the Plaintiff in 2012 under the agreement that the Plaintiff could subscribe to Company A’s shares for NT$10 per share. The Plaintiff exercised the stock warrant on April 1, 2014 and April 1, 2015 by exercising 450,000 shares for NT$4.5 million and 200,000 shares for NT$2 million, respectively. However, when consolidated income taxes were filed for 2014 and 2015, since the income generated from Company A in each respective year was reported to be zero, the Defendant determined that taxes shall be supplemented. Dissatisfied, the Plaintiff brought an administrative action.
According to the Decision, Article 167-2, Paragraph 1 of the Company Law provides: “Unless as otherwise provided for under laws or the Articles of Incorporation, a company may, upon adoption of a resolution by a majority of the directors present at a meeting of the board of directors attended by at least two thirds of the total number of directors of the company, enter into a stock warrant agreement with its employees whereby the employees may subscribe, within a specific period of time, to a specific number of shares of the company. Upon execution of the said agreement, the company shall issue to each employee a stock warrant.” This also shows that the so-called “employees’ stock options” refers to a right granted by a company to its employees to allow them to subscribe to a predetermined number of the company’s shares in a pre-determined period or an exercise period for a predetermined price or exercise price. Therefore, it is possible that the employees ultimately do not exercise their stock options. However, the purposes of such employees’ stock option system is to enhance employees’ benefits and the company’s business performance. Therefore, this is a system that links employees’ compensation with the company’s business performance. Therefore, the income generated by exercising the option at issue is not an income type specifically enumerated in Categories 1 through 9 under Article 14, Paragraph 1 of the Income Tax Law. Therefore, it should certainly be classified as other income under Category 10 of the same article and the amount of the income shall be calculated pursuant to the provision concerning such category. Although the stock obtained by the employees by exercising stock warrants is not cash, still their economic capability is enhanced due to an increase of their assets. Therefore, if it is determined that their income is realized on such basis, this also meets the principle of the ability to pay. Therefore, according to the above explanation about the year in which the non-cash income is realized, when an employee exercises a stock warrant, the time when the stock is obtained should be the timeframe for income realization. The positive difference between the closing price of the target stock (income) on the day when the right is exercised and the share subscription price (cost) should be the income (net asset increase), which should serve as the basis of taxation. This is the requirement under the current tax regime and does not violate the principle of the ability to pay.
According to this Decision, there are foreign legislative examples where employees who do not sell the stock obtained by exercising their stock warrants in the year of exercise are not required to pay income taxes (even though they may have to pay a sum equivalent to the minimum tax under the Income Basic Tax Statute to prevent high-income taxpayers from evading taxes through any tax loophole) until the stock is sold when the income tax is levied based on the difference between the market value of the stock and the share subscription price. However, this was not adopted under the Income Tax Law of Taiwan. Firstly, income from securities trading is tax-free. Secondly, the current requirements may not necessarily be unfavorable to taxpayers, depending on the actual price movement of the stock, and this risk should be assessed by the individual exercising the stock warrant. Thirdly, the share subscription price is essentially lower than the market value of the stock on the day the stock warrant is exercised by an employee, resulting in an overall property increase. The embedded gain from the positive price difference is realized income. Therefore, the current system under the Income Tax Law does not violate the principle of the ability to pay and has evolved in the course of legislation. The appreciation or depreciation of the stock price upon an employee’s acquisition and transfer of the stock cannot be cited as the reason for accusing that such tax regime violates the principle of the ability to pay.
It was held in this Decision after the foregoing reasons were generally considered that since the original disposition which assessed the Plaintiff’s other income for 2014 and 2015 respectively based on the positive differences between the share value on the days the Plaintiff exercised the right and the share subscription price was not inappropriate, the Plaintiff’s complaint was dismissed.