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Are stock options taxing your brain? Don't worry, we've got you covered! In this article, we will unravel the answers to the most asked questions on the taxation of stock options in Estonia.
Whether you're an employer looking to grant stock options to your employees in Estonia or an employee who has been granted stock options, understanding the tax implications is crucial. From favourable tax regimes to eligibility criteria, tax rates and types of taxes, we’re here to explain and simplify it all for you.
So grab a cup of coffee, sit back, and prepare to have your questions answered. By the end of this article, you'll have a comprehensive understanding of:
- how stock option taxes work in Estonia
- is there a tax-advantaged scheme
- what are the conditions for tax relief
- what are the applicable tax rates
- who is responsible for paying taxes
- when the taxes should be paid
Are stock options taxed in Estonia?
The short answer is yes. If there is any benefit, income or gain, that is usually taxed in most countries unless it is clearly stated that it is tax-free.
If both - the option giver and the option receiver - are based in Estonia for the entire lifecycle from grant to sale, there is no question that the option program is subject to Estonian tax rules. If more countries are involved, for example, if the employee lives and works in more than one country, it might be a bit trickier - we’ll return to this another time.
So, for now, we assume that all the parties involved - the company and the participants of the stock option plan are tax residents in Estonia, and the participants do not physically work outside of Estonia for a longer period.
Read more about calculating stock options tax.
When are the stock options taxed?
During the lifecycle of stock options, there are a couple of moments when the taxes can be due. Typically, these points are granting, vesting or exercising the options and selling the shares.
In most countries, including Estonia, the first tax point in the lifecycle of stock options is when the participant receives a benefit - something with a value that can be determined. It does not have to be money, so you should also expect all non-monetary benefits or gains to be taxed.
How much, which type of tax and who is responsible for paying it depends on:
- the tax regulations of the country where the employee works
- whether there is any favourable tax treatment for stock options
- whether the conditions for the favourable tax treatment can be met.
In Estonia, the moment of concluding a grant agreement or the moment when the first options start to vest is not yet considered a taxable event.
The first taxable benefit is received when the employee has exercised the options, meaning that he or she has received a share in the company. The benefit is the market value of the shares, less any expenses needed to get it.
Non-monetary benefits to employees are called fringe benefits in Estonia. It’s the same as benefits in kind in many other countries. They are usually taxed in the same way as a salary, although there may be some differences in details, as is the case for Estonia. So bear with us, we’ll explain it below. Or you can read yourself here at the Estonian Tax and Customs Board website.
Is there any favourable tax regime?
Stock options can benefit from tax relief in Estonia under certain conditions. Fortunately, only a couple of basic conditions are relatively easy to follow.
The idea of the favourable tax regime is that the first point of taxation can be removed so that the benefits from exercising the options are not taxed, and the only tax to be paid is when the shares are sold.
In a nutshell:
- if conditions are not met, taxes are due at the exercise and at the sale,
- if conditions are met, the only tax point is at the sale of shares.
What are the conditions for the tax advantage?
In Estonia, there are basically two main conditions to defer taxation from exercise to sale:
- At least 3 years must have passed from the grant of options until the options can be exercised.
- The grant of options must be notified to the Estonian Tax and Customs Board.
The 3 years holding period
It is the most important condition to remember when planning and drafting your ESOP for employees working in Estonia. It's best to include it in the options agreement and explain it to the option receivers.
The options must not be exercised sooner than three years from their grant to benefit from the tax relief. So, the tax law requires that the options be held for at least three years before they are exchanged for company shares.
It is suggested to include the 3-year requirement in the grant agreement between the company and the employee to avoid confusion. It is also important to follow this rule in practice.
But if such a requirement is missing from the grant agreement and the company offers to exercise the options sooner, nothing prevents the optionholders from using the opportunity to buy the shares.
Just be aware that if the 3 years have not passed from the grant of options yet, the value of the shares is considered a fringe benefit, and the employer company must pay taxes on it at the point of exercise.
Notification requirement
Three years start to count from the moment when the grant agreement is signed by both parties - the employer and the employee.
The grant date should be fixed so that the tax authorities know if the tax relief is applicable at exercise.
The date can be fixed in different ways:
- the easiest way is to sign the grant agreement digitally. It is a widely used type of signature in Estonia, and the best part is that if done so, it doesn’t require additional notification to the tax authorities.
- notarisation of the grant agreement is also possible, although it needs a bit more paperwork. A separate notification to the tax authorities is not required if the date of the signatures is proved by the notary.
- e-mailing the grant agreement to the Estonian Tax and Customs Board within 5 days of the agreement signed by both parties. A hard copy is not required; just an e-mail to the general e-mail address (ariklient@emta.ee) is sufficient. Check it out here.
By the way, Salto X has created a Stock Options Tax Calculator that lists the main conditions for tax relief in many countries.
Who is eligible for tax relief?
In many countries, tax relief is available only for individuals who are employees of the company in which shares are offered. Often, the shares of the group companies can be offered, as well.
From the legal point of view, it is normally not forbidden to offer stock options to persons who are not employed by the company or to other companies. However, you must be aware of the tax consequences.
As a rule, tax relief on stock option plans is given to employees, sometimes also to contractors, but typically not to legal persons.
In Estonia, tax relief is available for employees, board members, contractors and service providers as long as they are physical persons. Nothing prevents from granting stock options to legal persons, but such grants are taxed differently and are not covered by the favourable tax rules described in this article.
What if the conditions for tax relief are not met?
The notification requirement is easy to meet, so this shouldn’t be a problem. However, sometimes life happens, and the 3-year holding requirement cannot be met, meaning that the options are exercised into shares sooner than 3 years have passed from their grant.
In such case, there are two tax events instead of one:
First, at the exercise. The value of the shares obtained is considered a fringe benefit given by the employer. Estonian income tax law requires only the employer to pay corporate income tax and social tax on the fringe benefit given to its employees.
However, even if the employee does not have to pay and declare any taxes when he exercises his options, it is common practice that the grant agreements include a special clause for such a case so that the employee may be requested by the employer to compensate the tax amount to the employer. Check your grant agreement to see if it contains such a clause.
The second tax point is when the shares are sold. The next chapter describes it in detail.
What about capital gains tax?
Capital gains tax is typically paid when some assets are sold. Thus, when the optionholder has exercised his options and become a shareholder, the sale of his shares may result in a gain that is then taxed with a capital gains tax.
The Estonian tax system does not have a separate type of tax called capital gains tax. The gains from the sale of shares are taxed with income tax, although the calculation of the taxable amount follows the same principles as in most other countries for the capital gains tax. So, in practice, it is just a different name for the same tax.
How the capital gains tax is calculated?
First of all, the tax is paid on the gain made from the sale of shares. The gain is the difference between the sale price and the acquisition cost. If the difference is negative, it is called a loss, and no tax should be paid.
Nevertheless, it is important to understand what is included in the acquisition price to be able to calculate the tax on the correct amount.
According to the Estonian Income Tax Act, all certified expenses which a taxpayer makes to obtain the asset, including the commissions and fees, are included in the acquisition cost. In addition, there is a separate rule for assets obtained as fringe benefits to avoid the double taxation of the value of the same asset.
In short, for an employee who participated in ESOP and obtained the shares through the exercise of share options, the acquisition price is the sum of the following:
- the exercise price that the employee paid to buy the shares at exercise
- the value of the shares on which the employer paid tax on fringe benefit (see above)
- taxes that the employee compensated to the employer in relation to the exercise
- transaction fees directly connected to the sale of shares (e.g. notary fee)
If the employee did not pay any exercise price, there is no such cost to deduct from the gain.
If the employee exercised his options after the 3-year holding period, there was apparently no tax to pay on fringe benefits, so there are also no other deductible amounts.
If there are no deductible amounts, the entire sales price is the gain and will be taxed with an income tax of 20% in Estonia.
Please remember to provide or ask and keep the documents proving the payments. These are needed when you declare your income from the sale of shares.
Can I sell my options?
It depends on what is agreed in your grant agreement. Typically, the ESOP (employee stock ownership plan) conditions do not allow the options to be sold. There are several reasons for that, one of them being the tax consequences.
Even if the options are allowed to be sold and it is possible to find a buyer, selling them means that the conditions for tax relief are not fulfilled.
The result is that the employer is obliged to pay the taxes on fringe benefits which is the selling price of the option.
The employee must report the sale of the option to the employer so that the employer can calculate and pay the taxes on time.
Here’s a way to visualise and remember all that was explained above:
Who is responsible for paying the taxes?
This is pretty simple in the Estonian case. Tax obligation is entirely on the employer or employee, depending on whether the tax relief requirements are met.
If the requirements are unmet, the employer must declare and pay the taxes on the fringe benefit. The employee does not have any tax or reporting obligation at that point.
The employer has no tax or reporting obligations if the requirements are met. The tax obligation to report and pay is only on the employee if and when he makes a profit by selling the shares.
There is usually no withholding tax obligation for the employer regarding the ESOP. The only exception might be if the options cannot be exercised and are compensated in cash. Then, the favourable tax rules for stock options cannot be applied, and the compensation is taxed as a normal salary.
What are the tax rates in Estonia?
Tax rates concerning ESOP are relatively easy to remember since there are no progressive tax rates. However, there are some specialities to bear in mind concerning the Estonian tax system.
The income tax rate for all individuals is 20% until the end of 2024. From 1 January 2025, the income tax rate will be increased to 22%. This rate is applied to all types of income and capital gains from the sale of shares.
The income tax rate for companies is currently 20/80. Because of the particular characteristics of the Estonian corporate income tax system, the rate is expressed as a fraction instead of a percentage. In simpler terms, it means that the tax rate of 20% is added on top of the taxable amount. Accordingly, it will be 22/78 from 2025.
The social tax rate is 33%. There are no minimum or maximum, no allowances or deductions - all payments are taxed with that exact rate. Unlike in many other countries, the social tax is paid only by the employer, so there is no additional employee part.
It is good to know that when calculating the social tax on the value of the fringe benefit, the taxable amount consists of the benefit's value and the corporate income tax paid on it.
What are the reporting obligations?
For employee stock option plans, there are three separate reporting obligations to note:
- reporting of the grant agreement to the tax authorities (employer)
- reporting of the fringe benefit taxes, if any (by employer)
- reporting of the capital gains from the sale of shares (by the employee = shareholder)
First, as was mentioned above, the employer has to report the ESOP to the tax authorities within 5 days of the agreement being signed. No reporting is required if the agreement is signed digitally or notarized.
Second is the case when the conditions for tax relief are not met, and the employer has to pay taxes on the fringe benefit. Companies in Estonia submit their income tax returns every month, including fringe benefits.
So, the taxes on the fringe benefits must be declared and paid by the 10th day of the month following the benefit was made available to the employee. The deadline applies for both - the corporate income tax and social tax.
Thirdly, capital gains by the individuals are declared in the annual tax return. The deadline for the personal income tax returns is 30 April of the year following the year when the income was earned. The tax amount is due by 1 October, which is 5 months from the date the tax return was due.
Therefore, when the shareholder has sold the shares, for example, on the 2nd of February 2024, the gains from that transaction have to be declared in the annual tax return for 2024, which has to be submitted by 30 April 2025 and tax paid by 1 October 2025.
All the tax returns are normally submitted electronically. Individuals receive an electronic notification from the Estonian Tax and Customs Board before the tax is due.
Summary
The long story short:
Stay tuned for more detailed insights on the cross-border situation, investment account possibilities, VSOP taxation and more.
