date | theme

30. November 2020 | Taxation of phantom shares when selling a company

01. December 2020 | Vesting at Phantom Shares: how to regulate the early exit

28. January 2021 | Phantom Shares: how to indirectly involve employees in the company

29. January 2021 | Phantom Shares in the balance sheet: how to balance virtual investments?

25. June 2021 | The new § 19a EStG helps employees to participate in startups!

18. October 2021 | Employee participation at startups: Analysis of legal measures (this article)

For startups, employee participation is a particularly important support in the fight for the most competent employees. Especially in new industries such as sustainability or IT, specialists are very competitive. Said employee shares are also referred to in jargon as Employee Share Ownership Plan (ESOP) or Phantom Shares and thus ensure employees a participation in the development of the still young company. In particular, financial incentives should compensate for and appreciate the lower salary at the beginning compared to larger companies or other industries. In addition, startup conditions always play a location interest, which is competitive and innovative desirable. In order to ensure this in Germany and to catch up with other countries, reforms in the taxation of employee shareholdings must be initiated. The extent to which this has been achieved by the governing parties is examined here with the addition of critical votes against.

In the super-election year, the Federal Government initiated and enforced a change for employee participation in startups. The Fund Location Act (FoStoG) is intended to raise the conditions for startups as well as for potential employees of young companies. Previously, criticism of the German taxation policy for startups was more frequently exercised, as these conditions in the international context drop significantly and hardly promote the competitiveness and innovative power of Germany. The tax measures have so far caused significant financial disadvantages for companies based in Germany and thus more and more reasons for founders and investors to move away. To ensure that this does not happen and that capital and investments in technology, climate and digitalization take place in Germany, the new law should provide a remedy. Whether this has succeeded adequately and what the different positions of the economy and the parties involved are, is analyzed below.

2.1.1. Date of taxation of employee shares

The most significant changes in the new legal basis of § 19a EStG on employee participation are reflected in the time of taxation. Because with the new regulation, the startup employees do not have to tax the shares directly. Now it has been decided by the Federal Government in the so-called Fund Location Act that these employee shares receive a tax-free period after issue of up to 12 years. The exception to this would occur in the event of a change of company of the employee, in which the taxation would then take place immediately. Previously, however, the startup association demanded a deadline of up to 15 years, which has now not quite been reached.

Before the change, this decidedly impractical approach was a gait in the German startup scene. Employees had to tax the difference in value between the exercise price for the option and the value of the shares received at the personal income tax rate. The process is also called taxation of Dry Income, since no funds have been created to finance the tax burden. This is more than impractical from several aspects and points of view. The legislator reduces the incentive to enter startups at all and thus reduces the competitiveness of Germany as a business location in an international comparison enormously. In addition, employees must make a payment for unrealized profits, which in principle contradicts already relevant accounting principles.

The employer can assume the payroll tax for the employee in case of doubt. In case of doubt, this makes the situation easier for the employees, as they do not have to pay tax for their received employee participation. This at least counteracts the lack of competitiveness on the labour market a bit, but costs arise early, which in other countries only arise when selling, for example, the GmbH. It should also be noted that this does not address the problem of taxation of Dry Income. This is and remains a criterion that the Startup Association emphasizes again and again and also signals urgency, because this controls and guides, among other things, the innovative power of the location Germany.

Now the new law also provides for the possibility of referral information to the tax office according to § 19a para. 5 EStG. This is intended to confirm to the company to what extent the issued employee shares are to be taken into account in the payroll tax. In particular, the underlying legal certainty is welcomed by companies. A special difference in the context of employee participation is the binding information in the income tax by the free invocation information according to § 42e EStG.

2.1.3. Increase in the capital allowance

Furthermore, it is necessary to mention an exclusively positive point. Because the legislature has increased the allowance for capital investments from 360 € to 1,440 € per year.

2.1.4. Taxation also for indirect shareholdings

In addition, it has been added that also for shareholdings held indirectly through a partnership are subject to taxation.

2.2.1. Definite tax on unrealised profits

Now the fact of taxation can be considered in different ways. On the one hand, a high taxation and thus a higher valuation of the not yet sold company speaks for a potentially interesting company. Whether this circumstance is due to a sustainable or particularly competitive business model, an activity in a promising industry or the existing particularly competent employees, reflects a rather subordinate role. Because there are hard criteria for which certain investors are ready to take a lot of money at an early stage. Thus, a taxation can be understood in the sense that it is most likely a sale and the Treasury does not want to wait so long for his money.

On the other hand, it is always possible that in the end the development of products fails or the demand for the goods and services is no longer available and potential competitors can lose the rank of a company. As a result, startups already have a special entrepreneurial risk in advance. Thus, founders can never be sure whether their startup can finally execute an exit.

The argument on the part of the government about this intermediate step exists, among other things, due to the difficult enforcement of tax claims by the tax offices, if the taxation does not take place when an employee leaves. Because then it would have to be exactly tracked which employee changes to which company and finally request a tax there.

2.2.3. Virtual employee ownership

In addition, virtual participations are the most common form of employee participation at startups, but are not addressed by the law, according to the FDP. Thus, from the point of view of the economy and from the point of view of some parties in the Bundestag, hardly any improved situation has occurred due to the new law regulating the indirect participation of employees via phantom shares in companies. Virtual investments result in a possible bonus flowing as compensation to the employees. The resulting liability ultimately reduces the company value and thus in turn the share that later belongs to the employee. However, this aspect is not taken up by the law and is therefore not improved.

Finally, it is disconcerting that there are positive aspects of the new § 19a EStG. Nevertheless, in a new government, much more hope is placed on improved conditions in the startup sector. Because the current changes do not ensure a tax equality of startups in Germany with startups in other highly technological countries. Especially in the case of virtual employee shares, the so-called phantom shares, it is important to set a special focus, because this is the most common form of participation in the startup sector. If you have questions about taxation, accounting or issuance of employee shares or stock options, you can contact us at any time.