Global Tax Alert (News from Americas Tax Center) | 8 August 2013

Recent Brazilian decisions address compensation nature of stock option income

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Brazil’s Administrative Counsel of Internal Revenue (CARF) has recently decided that two Brazilian companies should pay social security contributions on the income from their employee stock option plans. These decisions are not final, however, since the companies may appeal in at least two other courts: the Superior Chamber of Tax Funds (“Câmara Superior de Recursos Fiscais”) and the Regional Federal Court (“TRF”).

In both cases CARF has decided that the stock options granted under the companies’ plans should be treated as compensation income rather than investment income, based on the specific characteristics of each plan. As compensation, social security and labor contributions (INSS and FGTS) would be due on these amounts.

It is important to highlight that the counsels recognized in their decision that stock option awards may also have an investment purpose, and, under this position, the social contributions would not be due. However, in order to support the investment position, the stock option plan should have enough characteristics to stand up to this approach.

The characteristics are, mainly: employee’s risk and uncertainty as to gain and cost for the employee. Otherwise, it may be deemed as compensation income, which was the case in both decisions mentioned.

Background

CARF is an administrative agency of the government which helps supervise federal contributions. It does not have the power to enforce its decisions, which may be appealed in the Superior Chamber of Tax Funds, which also does not have the power to enforce its decisions. The Regional Federal Court has the final word and the power necessary to actually penalize the contributors. These decisions are not definitive, especially because Brazilian Law has not officially addressed this issue. In past cases that have decided this issue, Federal Courts have understood that the stock option plans are not considered remuneration benefits chargeable for social security contributions.

In this sense, we reinforce that the position to be adopted for stock option awards (investment vs. remuneration) should basically depend on the characteristics of each plan. Therefore, EY has recommended that companies which adopt the investment position for their stock option plans review their plans according to the CARF decision in order to mitigate the risks of future assessments by the local authorities.

Next steps

Companies are advised to review their stock option plans and the relevant aspects of contracts, processes, and communication protocols to establish that not only are they consistent with the benefit they are intended to deliver to participants, but to provide that they are following the correct tax, labor and social security approach for their specific plan.

As a very general rule, the investment position might be adopted when there are employee costs and risk elements involved. However, procedures such as same-day sale or cashless exercise may affect the position. Other points, such as recharge procedures to the Brazilian company (when the stock options are granted by the parent company, outside Brazil), should also be considered in this analysis.

For additional information with respect to this Alert, please contact the following:

Ernst & Young Serviços Tributários S.S., Tax Advisory and Assignment Services, São Paulo
  • Tatiana Ponte
    +55 11 2573-5288
    tatiana.ponte@br.ey.com
Ernst & Young Serviços Tributários S.S., Immigration Services, São Paulo
  • Raquel Santos Teixeira
    +55 11 2573-5504
    raquel.teixeira@br.ey.com
Ernst & Young Serviços Tributários S.S., Human Capital Tax Advisory Services, São Paulo
  • Oliver Nobumitsu Kamakura
    +55 11 2573 3295
    oliver.kamakura@br.ey.com
  • Carolina Rotatori
    +55 11 2573 3013
    carolina.rotatori@br.ey.com
Ernst & Young Serviços Tributários S.S., Tax Compliance, Rio de Janeiro
  • Carlos Martins
    +55 21 3263-7111
    carlos.martins@br.ey.com

EYG no. CM3721