Deferred Share Plan or Deferred Share Bonus Plan
Deferred share plans are usually linked to annual bonus. With any deferred bonus plan some of your annual bonus is deferred, which means you don’t get it straight away. There are almost always some situations in which you don’t get it at all. Some plans are tougher than others- getting the deferred part may depend on you remaining in employment during the deferral period. It may depend on the extent to which additional performance conditions are satisfied. Or it may simply be that the company wants to make sure there is something that ‘malus’ can bite on, in which case if there is no misconduct discovered and no other malus event occurs, you will receive your payout even if you have left in the meantime.
If the plan is a deferred share plan then the amount that is deferred will be linked to the company’s shares. How it is linked depends on how the plan is structured. The linking means that how much you get at the end of the day depends not just on the amount of the bonus that you provisionally earned, but also on the performance of the company’s shares during the deferral period. It is likely that ‘malus’ provisions will apply during the deferral period. The idea is that if something happens to trigger the malus clause, your award can be adjusted downwards or forfeited completely, even if you remain in employment. For instance, a malus clause may be triggered if it is discovered that the figures on which the original bonus was based have to be adjusted downwards, or if there is evidence of misconduct.
These days it is common for deferred share awards to be subject to both ‘malus’ and ‘clawback’. Malus is the right for the awards to be adjusted before they pay out. Clawback is the right for the company to reclaim some of the award value for a period after the award has paid out, if something serious is discovered.
What kind of award?
Deferred share plans normally take one of two forms:
- Compulsory deferral. You are not given any choice. Part of your annual bonus is delivered in the form of a share award. Often ‘employment conditions’ apply and your award can be forfeited if you leave during a specified deferral period. The plan may say that ‘good leavers’ may retain all or part of their awards. The awards are not typically subject to performance conditions.
- Voluntary deferral. You can choose to take part of your annual bonus as a deferred share award. To encourage you, if you do, you may receive a matching award. The matching element of the award is typically subject to both employment conditions and ‘performance conditions’.
The tax treatment of your deferred share plan awards depends on how they have been structured. The company should explain broadly how the tax is expected to work for your awards.
Taxed at the beginning?
The plan may work so that the amount of your bonus that is to be deferred into shares is taxed up front, with the after-tax amount used to buy your award shares at their full ‘unrestricted’ value. You own the shares but they are ‘locked up’ in some way, so that you are only free to sell them after the end of the deferral period, assuming no malus or ‘forfeiture’ provisions have been triggered. In the meantime, you would normally get any dividends that are paid on your award shares. Sometimes you may be asked to enter into a Section 431 election , intended to make sure the tax treatment is as the company expects. When eventually you come to sell the shares, you would expect that any growth in value over the deferral period would be subject to the capital gains tax rules. But if some of your shares are forfeited, don’t expect a refund of the employment taxes paid on the original bonus. The risk of losing the shares has to be balanced against the potential benefit of paying less tax overall.
Taxed at the end?
It doesn’t always make sense for the plan to work in a way that means there is a risk of paying tax on something you never actually get. This is particularly so if the awards are subject to performance conditions. Many plans are structured so that the provisional bonus amount is never ‘earned’ in such a way that the PAYE rules apply and the share awards take a form that means the value of the shares that you get following the end of the deferral period is subject to employment taxes only at that time.
- If the awards are ‘nil cost options’, no tax arises until you exercise your option and get your shares. Employment taxes will arise at that point. You will typically be expected to sell at least enough of your option shares to reimburse you employer for the income tax and national insurance contributions that it has to pay to HMRC under the PAYE system.
- If the awards are ‘conditional share awards’ (or RSUs) no tax arises until after vesting, when you become the owner of your shares. Employment taxes will arise at that point. You will typically be expected to sell at least enough of your award shares to reimburse you employer for the income tax and national insurance contributions that it has to pay to HMRC under the PAYE system.
- If the awards are ‘restricted share awards’, they may be structured so that no tax arises when you acquire them (this assumes that you will know whether or not you become unconditionally entitled to your shares within 5 years of when you acquired them). Instead, employment taxes apply when the shares become unconditionally yours, on the full value of the shares at that point.
Understanding your award
It’s worth taking the time to read the information you have been given and ask questions about any things that seem unclear. If there is an external share plan administrator, there may be more information if you log in to your account on their website. There may be a helpline that you can call.
Deferred bonus plans and the awards made under them vary, so that we can only include very general information on this website.
You should make sure you are clear about the main terms of your award. You may want to think about putting into your diary some reminders ahead of the Key Dates so you can assess whether your awards are likely to pay out, think what action you might or might not want to take, make sure you still have the PIN numbers and passwords if you need them to get access to award details that are held electronically and make sure you have time to seek individual advice if you decide you need it.
Be careful- the information on this web page is not the same as advice- read this.