Update from Germany

Overview


Taxation of Stock Options Granted to Expats
By Dr. Gero Burwitz

The secondment of employees from U.S. parent companies to German subsidiaries or branches is a well-established tool to enhance cooperation between the offices and promote the exchange of knowledge, experience and cultural understanding. However, the tax issues raised by secondment must be considered carefully. At the level of the parent organization, the formation of a permanent establishment should be avoided. The costs related to the expatriate employees’ functions must be allocated for tax purposes between parent and subsidiary, and this allocation is a crucial issue often challenged by fiscal authorities. The expatriate often receives an attractive package including a top executive compensation (possibly combined with a tax-equalization clause), fringe benefits, payroll slit-models and continued participation in the various plans set up by the employer (deferred compensation, pension, stock options, restricted stock units, etc.)

The taxation of stock options granted before the secondment but exercised in Germany, and the taxation of stock options granted during the secondment in Germany but exercised after the return to the United States, often is addressed during tax audits. On September 14, 2006, the German Federal Ministry of Finance issued a decree that addresses this topic and is being applied to the upcoming tax audits. The taxation of stock options is a crucial issue for employers, because they must withhold wage tax on behalf of the employee on every taxable pecuniary benefit, and are liable if they do not do so.

The decree qualifies the pecuniary benefit derived from a grant of option rights for the acquisition of shares as income from employment. Therefore, the tax rate applied to the benefit is the same individual rate as that applied to any other income from employment. As a consequence, the flat rate for income from capital will not be applied to this pecuniary benefit starting in 2009. Income an employee earns from holding the shares after exercising the option or from the subsequent disposal of the shares, is assessed separately, using the rules for income from capital.

Show More