Middle ranks hit hardest

TAX LIABILITY

SIMON PINCOMBE

The Chancellor's decision to withdraw income tax relief from discretionary share option schemes was yesterday condemned as irrelevant in curbing executive greed, but a significant blow to wider employee share ownership.

"This is going to hit a lot of middle ranking managers rather than highly paid directors,'' said Brian Friedman, head of Arthur Andersen's Executive Pay and Compensation practice. David Cohen, a lawyer specialising in employee share schemes said: "The tax changes will have very little impact on senior executives. The real pain will be felt by the tens and thousands of rank and file employees who participate in the significant number of executive schemes.''

According to the latest Inland Revenue statistics there were 5,680 approved share option schemes in operation. But highly paid executives form just a tiny proportion of the scheme members. Out of a total value of pounds 1.6bn, the average value of options granted is only pounds 18,000. The move will yield an extra pounds 80m a year to the exchequer.

The main advantage of the now abolished "approved scheme'' - which charged members capital gains tax only when they sold the shares - fell to middle ranking employees who could reduce tax on modest gains using their pounds 6,000 annual capital gains tax exemption allowance. "If you were making relatively modest gains this was very significant,'' said Mr Friedman. "But if you are making gains of the order of pounds 100,000, then it is largely insignificant.''

At 40 per cent, the rate of capital gains tax is the same as the top level of income tax, making the changes irrelevant for big earners whose gains dwarfed their annual allowance.

Now all share option schemes will be unapproved for tax purposes. Tax will be charged when options are exercised rather than when shares are sold. This means an income tax charge when a scheme member buys shares in a company - on the difference between the option and the market price. If those shares are later sold, a further capital gains tax liability arises if the shares have increased in value.

The tax changes take effect immediately but they will be formalised in the 1996 Finance Bill.