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'which (in accordance with the provisions of section 135(3)(a) of the Income and Corporation Taxes Act 1988) would have been taken to be the amount of the gain realised by an exercise in full of that right immediately before the time of its assignment or release.'.
Mr. Timms: These amendments would amend the provisions in clauses 2 and 3 that deal with the assignment or release of an option that has been settled under the Bill. As I said in Committee, I am grateful to the hon. Member for Arundel and South Downs (Mr. Flight) for identifying a loophole in the Bill as previously drafted.
Clauses 2 and 3 deal with the somewhat complex issue of exchanges of options. Our clear intention was to protect the national insurance liability if a settled option were to be subsequently rolled over--or exchanged for another option--or assigned or released, and the new option were to be of a higher value at the time of the roll-over.
We have looked again at clause 3, as I said in Committee we would, and amended it to ensure that it is effective to deal with the range of situations that may arise. It remains complex. I do not seek to persuade the House that this is a straightforward matter. It is not. It deals with multiple roll-overs and a situation in which options are assigned or released for a mixture of benefits such as options plus cash. Most companies will not need to use the provisions in clause 3, which deal only with roll-overs. For those that do, special guidance will be available so that they can be confident about how the legislation will operate.
The amendment leaves undisturbed the class 1 liability on the excess value given for the settled option to prevent the kind of manipulation to which the earlier drafting could have been open and to which the hon. Member for Arundel and South Downs drew our attention.
Mr. Flight: Amendment No. 1 indeed addresses the point that we raised in Committee--that the wording of the Bill as drafted opened up scope for avoidance. By the substitution of the term "gain" for the "gross proceeds" to which the original drafting referred, the mistake is corrected.
Our main objections are to amendments Nos. 2, 3 and 4. As we pointed out in Committee, clause 3 deals with the complex territory of takeovers, in which people have options in a company that is taken over and receive alternative options. We attempted to draw the Government's attention to what we felt was misdrafting and a misunderstanding of the implications of certain parts of the Income and Corporation Taxes Act 1988.
It is our perception that those problems have not been grappled with. What is the Government's intention in relation to takeovers and switches of options? We have assumed that common sense will prevail and that the intention is that if people receive a like-for-like option and the value is the same, the position is essentially neutral and no national insurance contribution liability is activated. Obviously, if more valuable options are granted in lieu of the existing options, there is a changed situation, and an NIC liability should apply on the value enhancement, preferably when the options are exercised; or if in place of the existing options people receive a mixture of new options and cash, there will be NIC liability on the cash that has been paid.
It seems that the basic flaw that we pointed out in Committee has been carried over in amendments Nos. 2 and 3. The Bill should provide that if there is an enhancement element in any option exchange, it should be subject to NIC on exercise, as we proposed in Committee. Otherwise, the new option has the benefit of any exemption on the old option.
The technical background is that NIC charges on options are explicitly linked to income tax charges under section 135 of the 1988 Act. Section 4(4) of the Social Security Contributions and Benefits Act 1992 charges NIC on any gain on which the earner is chargeable to tax by virtue of section 135. This charges tax on the exercise, assignment or release of an option and provides that if people exchange one option for another they are not charged tax on the value on the new option, but are charged tax if any other consideration--cash, for example--is given at the same time. The new option should be treated as if it were the original option and the employee had paid the due amount to acquire the new option equal to what he paid for the original one, less any consideration taxed on that exchange and paid at the time of the exchange. So it is a little misleading in amendment No. 3 to describe section 136 of the 1988 Act as
Amendments Nos. 2 and 3 expressly require section 136 to be disregarded in certain circumstances which, prima facie, appear to require a class 1 charge under section 4 of the 1992 Act under which there would not be an income tax charge. We are of the view that, technically, the provision is not correct as it stands.
Amendment No. 2 deals with the assignment or release of an option on which NIC can still be charged on the excess of any buy-out consideration which exceeds the inherent gain in the option. That is reasonably sensible in the light of amendment No. 1. However, amendment No. 2 also seems to provide that in the circumstances of an assignment or a release, we can ignore section 136 for these purposes and apply clause 2(3) to charge national insurance on the excess of the buy-out consideration over the lower of either the inherent gain in the old option or the inherent gain in the new option. That would only ever catch an extra cash consideration on the roll-over: if the new option was an enhancement, proposed new section 3A(a) would treat the non-cash consideration as equal to the gain in the old option as the lower of the two gains plus any cash, and the clause 2(3) charge would be only on that amount less the gain in the old option.
The net effect of the wording of the Government's amendment is that if no extra cash is offered on a roll-over but there is still an enhancement element, there will be a nil charge under clause 2(3). I question whether that is what the Government wanted. It is not a bad result, but the drafting that arrives at this, I suspect unintended, result is incomprehensible.
We think that there is an error in the drafting of amendment No. 3. Clause 3(4) preserves the right to charge national insurance on replacement options in specific circumstances, but amendment No. 3 provides that, on a roll-over, section 136 will apply to the new option only to the extent that it is over additional shares--that is, that the exchange is an enhancement. The intention appears to be that any enhancement element would be
The problem is that if there is no enhancement in the exchange, the wording also implies that section 136 will not apply to the roll-over, where only so much of section 136 applies as relates to additional shares and the new option, prima facie, gives rise to an NIC charge under the 1992 Act because, with section 136 ignored, there would have been a charge for income tax purposes under section 135.
I was upset that it was not possible to re-table on Report the amendments that we tabled in Committee on these complex issues. As we see it, our amendments address what the Government are seeking to achieve and what should be achieved, whereas the Government's amendments, sadly, do not.
On amendment No. 3, specifically, if the old option was covered by a notice under clause 1, there would be a nil class 1 liability and if not, there would be an accelerated employers' and employees' class 1 liability on the option exchange. So there is a mismatch between the national insurance charge and income tax; the Government are penalising "correct" parity non-enhanced option exchanges for companies which do not gamble on their share price. We assume that that is not the Government's intention; if it is, it is not very prudent. We shall be interested to hear whether that is the case. New subsection (4A) in clause 3 is expressed to be subject to new subsection (5), but that does not help the situation either.
We want to hear the Government's counter-arguments. If they think that we have not technically understood this nightmare labyrinth and the fact that, in essence, there is no 1992 Act charge because such a charge is moderated by statutory regulations; and if they are thinking of relying on such regulations, we would advise them against. Not even the Revenue pretends to apply the regulations in that territory, because they were wrongly drafted. The Government should correct or withdraw their amendments and reconsider the arrangements that we proposed in Committee.
(a) at a time when, but for this Act, a liability to pay class 1 contributions would otherwise have arisen in respect of that right; and
(b) to the extent that it is a right to acquire additional shares'."
Amendment No. 4 is not particularly necessary. It seeks to achieve the existing law of the land in a round-about fashion. It seems to be saying only that when there is a roll-over of a new option into another option, with cash paid out as well, the charge is on the cash element under clause 2(3)--on the assumption that one ignores any enhancement element in the new option. As discussed under amendment No. 2, that would be the position in any
Amendment No. 5 is broadly speaking okay. It addresses a mistake in the Bill which we pointed out in Committee. Amendment No. 6 also corrects a mistake that we pointed out in Committee. Amendment No. 7 is somewhat unclearly drafted, although if it were more precise, it could achieve an end with which everyone is in agreement--along the lines of our alternative amendment proposed in Committee.
Is the Minister sure that the wording of amendment No. 8 is right? We think that the brackets should be deleted from subsection (10)--the current wording does not seem to make grammatical sense. However, I am open to correction. How is the amount of special contribution for one of the options to be assessed, if not according to the principles set out in clause 3? Are we to pretend that the option is an original right?
I apologise for using such technical language, but it is important that law passed by this place is accurate and that it is so drafted as to achieve its objectives. I thought that the Government had accepted the underlying points in the amendments that we tabled to clause 3 in Committee. As I had sight of the Government's amendments only yesterday and had only yesterday afternoon and evening to take legal advice on them, I am disappointed that, for the third time, a significant part of the measure is wrong.