Taxpayers have generally avoided contributing public company employee stock options to a registered retirement savings plan (RRSP). This is because the contribution to the RRSP does not shelter the employee from the taxable employment benefit personally, and additional tax would be payable if the employee has to withdraw funds from the RRSP to fund the personal tax bill. With the introduction of tax-free savings accounts (TFSAs) in 2009, employees (which, for tax purposes, include directors and officers) can consider making a contribution of such stock options to TFSAs.
The primary differences between an RRSP and a TFSA are that contributions to a TFSA are non-deductible and withdrawals from a TFSA are non-taxable. This makes a contribution of an employee stock option to a TFSA potentially a more palatable alternative, as withdrawing funds to help fund personal tax liability does not itself create an additional withdrawal tax (and indeed, creates additional “contribution room” for TFSA purposes).
There is no income inclusion at the time a stock option is contributed to a TFSA. Instead the normal taxable employment benefit to the taxpayer arises at the time the option is exercised within the TFSA. In other words, contributing or transferring a stock option to a TFSA does not shelter the employee from the taxable employment benefit occurring when the option is exercised. The benefit in holding a stock option in a TSFA is the ability to shelter from tax the growth in value of the shares (following the initial taxable event arising on exercise of the option). Again, if amounts have to be withdrawn from the TFSA to help fund the personal tax arising on exercise of the option, that withdrawal is not a taxable event and, in turn, creates contribution room for the TFSA.
The Canada Revenue Agency (CRA) has previously taken the position that “out of the money” stock options have little or no value, using the intrinsic value approach. Theoretically, this could result in an anomaly of a taxpayer being able to contribute an unlimited number of stock options to a TFSA notwithstanding the $5,000 annual contribution limit. The CRA has yet to comment publicly on its position as it applies to TFSAs, though it appears that a different approach, such as the Black-Scholes valuation method, may be considered for such purposes. As there are significant penalties associated with over contributions or dealings with a TFSA other than on a commercial basis, an employee wanting to contribute stock options may wish to wait until this issue of valuation is resolved, or adopt a conservative valuation approach.