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Orders of the Day

Social Security Contributions (Share Options) Bill

Order for Second Reading read.

Mr. Speaker: I must inform the House that I have selected the amendment in the name of the Leader of the Opposition.

3.31 pm

The Financial Secretary to the Treasury (Mr. Stephen Timms): I beg to move, That the Bill be now read a Second time.

The Bill is part of the Government's response to companies' legitimate worries about the effects of aligning the income tax and national insurance treatment of employee share options.

Before 6 April 1999 the national insurance liability on employee share options arose at the date of the grant of an option, whereas for many years income tax liability has crystallised at the date of exercise of the option. That differential treatment ended in 1999. Options granted on or after 6 April 1999 relating to shares that are readily convertible into cash are now subject to treatment under national insurance rules that is similar to that under the income tax and PAYE rules. Provided that the option is not capable of being exercised more than 10 years following granting of the option, there is no national insurance liability at the time of grant; instead, the liability arises at the date of exercise, and the figure is the same as that which is chargeable to income tax.

Following the change many companies, especially those involved in international activities, expressed concern about accounting difficulties caused by the unpredictability of their secondary national insurance charges. The liability for a company as secondary contributor is uncapped, and is dependent on the volatility of the company's share price. Following a period of consultation, we introduced measures last year that went someway towards meeting those concerns.

Mr. Michael Jack (Fylde): Will the Financial Secretary tell me what, during the process of legislative preparation, caused the Treasury or the Inland Revenue to miss the point to which he just referred--the inability of the legislator to perceive the practical implications of the proposal with which the Bill seeks to deal?

Mr. Timms: Many changes have been made since the introduction of the measure. I think that the rapid rise in the share prices of some of the companies affected was unforeseen by them and others when those changes were made; certainly what has happened in the stock market was not predicted at the time.

We announced that employers would be able to ask employees to bear the secondary national insurance charge on the share option gain. That announcement was made on 19 May last year, and has generally received a good response. Companies have said that it has removed their accounting difficulties in relation to future awards of options.

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Last year's legislation was drafted to cover all the options that had already been granted. In practice, it has been difficult for employers to negotiate with employees terms that change options already granted to them. For many companies, uncertainty has remained in regard to options granted between 6 April 1999, when the change was made, and 19 May last year, when the new rules were announced. One company, for example, has a provision somewhere in excess of $100 million in its accounts for options granted during that period which it cannot currently remove. We have accepted the strength and seriousness of those concerns and I suggest to the House that the Bill meets them in a simple and practical way.

We are giving companies the chance to settle their national insurance liabilities on the options granted between 6 April 1999 and 19 May 2000 and to do so early, in advance of the date when the actual gain is made by the employee. Companies that choose to take advantage of this will calculate the amount of national insurance due by reference to the accrued gain up to 7 November 2000; the day before the pre-Budget statement when the proposals were announced. They will be required to notify the Inland Revenue and pay the appropriate amount within a period of 60 days of Royal Assent of the Bill. That effectively caps the national insurance liability by reference to the company's share price on 7 November last year and provides the company with complete certainty.

The benefits to the company are that it will be able to remove the need to make further provision against profits; it will be able to remove the provision for the liability from its balance sheet; and it will save national insurance contribution costs in relation to any further upward movement of the share price. The Bill offers early settlement as a quid pro quo for certainty.

Mr. John Bercow (Buckingham): The Minister said that companies had welcomed the delegation of responsibility to employees for secondary national insurance contributions. Could he explain in terms of the accounting benefit to those companies whether he thinks that the saving can be quantified in terms of money or simply in manpower and inconvenience avoided?

Mr. Timms: I am not sure whether it is either of those. The benefit of the change is that the employee taking on the liability is the person who controls when the liability falls, because that is the point when the options are exercised. The uncertainty in the company's accounts about when the exercise will occur and what the share price at the time will be is removed. The removal of uncertainty is the key benefit of the new arrangement. However, that leaves a problem in terms of those options that had already been exercised between the change in April 1999 and the announcement on 19 May last year. It is that period, and the uncertainly left by options issued in that period, that is addressed by the Bill.

Sir Nicholas Lyell (North-East Bedfordshire): Could the Minister explain the principle that underlies the requirement to pay national insurance contributions on those increases in the price of the company's shares in

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relation to readily convertible assets? Is it not to prevent an abuse of that system? Could that not have been simply dealt with by always capping it at a modest figure which reflected the use of that money as an artificial settlement to pay, but left completely untouched genuine increases over time in the company's share price?

Mr. Timms: The right hon. and learned Gentleman is quite right that there is a problem of abuse being addressed, but the mechanism that he proposes would leave unresolved a significant part of the problem, which was that there was a significant incentive for organisations to find ways to reimburse their staff through options--because the national insurance liability would not arise--rather than through salary.

We want an arrangement where the national insurance system is not biased in favour of either of those options. A number of organisations had come up with some quite ingenious methods of doing that. If we capped the national insurance liability, it would leave the bias in favour of the options route, as opposed to the salary route. We felt that that should not be allowed to continue.

When a company opts to settle its national insurance liabilities in this way, a special contribution will be payable by the employer on the deemed gain. This will be an employer-only charge, payable at the current class 1 secondary contribution rate of 12.2 per cent. A special employer-only contribution has been created so that the employee is not required to pay employees' national insurance as a result of the employer's decision to settle early.

When an option is settled, the employee will not be required to pay employees' national insurance on either the deemed or the actual gain. When an employee has taken on the liability for the employer's national insurance contributions under the measures introduced last summer, the employee will also be able to take advantage of this measure and settle his or her liabilities. We have ensured that the tax relief available to the employee, when the employee takes on the employer's liability, will still be available when the employee settles the liability in accordance with the Bill.

Mr. Simon Thomas (Ceredigion): The Minister referred to the contingencies that companies must have in their accounts for what might be the increase in national insurance liabilities. Has he made any estimate of the costs to the Treasury of the difference between the deemed gain on 7 November and what might have occurred with the payment of these options at the end of this financial year?

Mr. Timms: Yes, I have made an assessment of that, and we have published the figures. In the first year we anticipate that there will be a higher level of receipts to the Treasury because payments will be made early, but in later years there will be a significant loss. I have the figures but, from memory, the net loss to the Exchequer over the period would be about £150 million.

The Bill responds to the concerns of employers. We anticipate that many companies will take up this opportunity to crystallise their national insurance liability. I have pleasure in commending the Bill to the House.

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3.42 pm

Mr. Howard Flight (Arundel and South Downs): I beg to move, To leave out from "That" to the end of the Question, and to add instead thereof:

I begin by declaring an interest, as indicated, as a director of a company that has option schemes. The Bill is the Government's second attempt to correct measures that they got wrong in the April 1999 legislation which introduced the gains on options as subject to national insurance and income tax.

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