Employee Share Plans: Hong Kong

A Q&A guide to employee share plans law in Hong Kong.

The Q&A gives a high level overview of the key practical issues including, whether share plans are common and can be offered by foreign parent companies, the structure and rules relating to the different types of share option plan, share purchase plan and phantom share plan, taxation, corporate governance guidelines, consultation duties, exchange control regulations, taxation of internationally mobile employees, prospectus requirements, and necessary regulatory consents and filings.

To compare answers across multiple jurisdictions, visit the Employee Share Plans Country Q&A tool.

The Q&A is part of the multi-jurisdictional guide to employee share plans law. For a full list of jurisdictional Q&As visit www.practicallaw.com/employeeshareplans-mjg.

Contents

Employee participation

1. Is it common for employees to be offered participation in an employee share plan?

Participation in employee share plans is an established part of the remuneration package offered to employees in Hong Kong, especially for those employed by Hong Kong subsidiaries of multinationals. Employee share plans are offered both generally to all employees through all-employee plans, and selectively to senior executives and executive directors.

 
2. Is it lawful to offer participation in an employee share plan where the shares to be acquired are shares in a foreign parent company?

It is lawful to offer an employee share plan over shares in a foreign company. However, the foreign parent company may have to comply with prospectus requirements (see Question 24).

 

Share option plans

3. What types of share option plan are operated in your jurisdiction?

There is no statutory prescribed form of share option plan (SOP).

 
4. In relation to the share option plan:
  • What are the plan's main characteristics?

  • Which types of company can offer the plan?

  • Is this type of plan popular? If so, among which types of company is this plan particularly popular?

SOP

Main characteristics. The company grants certain employees options to purchase a number of the company's ordinary shares. Options are generally granted for free. The option exercise price is pre-determined at the time of grant and is often the fair market value of the company's shares on the date of grant. The options usually vest over a period of time after the date of grant.

Types of company. Any company can offer an SOP.

Popularity. SOPs are more popular with listed than unlisted companies, as it is easier to track the fair market value of listed shares than unlisted shares and employees can readily sell the shares once they have acquired them. SOPs are generally more popular than share purchase plans or phantom plans, particularly with subsidiaries of listed companies.

Grant

5. In relation to the grant of share options under the plan:
  • Can options be granted on a discretionary basis or must they be offered to all employees on the same terms?

  • Can options be granted to non-employee directors and consultants as well as employees?

  • Is there a maximum value of shares over which options can be granted, either on a per-company or per-employee basis?

  • Must the options have an exercise price equivalent to market value at the date of grant?

  • What are the tax and social security implications of the grant of the option?

SOP

Discretionary/all-employee. Entitlement to participate in the SOP can be awarded on a discretionary basis or offered to all employees. Employers must avoid selecting employees on a discriminatory basis. Discrimination laws currently protect employees from direct and indirect discrimination on the basis of:

  • Sex.

  • Family status.

  • Marital status.

  • Pregnancy.

  • Disability.

  • Race.

  • Colour.

  • Descent.

  • National origin.

  • Ethnic origin.

Non-employee participation. Participation in the SOP can extend to non-employees. However, the offering of options to non-employees can give rise to different prospectus requirements (see Question 24).

Maximum value of shares. There is no maximum value of shares that can be awarded under the plan.

Market value. There is no requirement that the options have an exercise price equivalent to market value at the date of grant.

Tax/social security. The grant of options is not a taxable event in Hong Kong. However, employers must report the grant in the annual tax filing for each employee. The tax treatment allowing for tax to be deferred until exercise is only applicable to employees/directors who are subject to salaries tax in Hong Kong. It does not apply to consultants and other non-employees, who may be liable for profits tax.

Vesting

6. In relation to the vesting of share options:
  • Can the company specify that the options are only exercisable if certain performance or time-based vesting conditions are met?

  • Are any tax/social security contributions payable when these performance or time-based vesting conditions are met? Who is obliged to account for the liability and by when? How (if appropriate) is the liability recovered from employees?

SOP

Exercisable only on conditions being met. The company can specify that the options are only exercisable if certain performance or time-based conditions are met. Time-based vesting conditions are usually imposed in Hong Kong, rather than performance-based vesting conditions.

Tax/social security. The vesting of options is not a taxable event.

Exercise and sale

7. Do any tax or social security implications arise when the:
  • Option is exercised?

  • Shares acquired on exercise are sold?

  • Who is obliged to account for the liability and by when?

  • How (if appropriate) is the liability recovered from employees?

SOP

Tax/social security on exercise. When an employee exercises the option, he is generally taxed on the difference (or spread) between the fair market value of the shares at the time of exercise and the exercise price. The employee can also recognise taxable income if he assigns or releases his rights under the option (if the option's terms permit this). The company must report the grant and exercise of the option on an annual basis in the course of ordinary payroll operations. Individuals are taxed generally at progressive rates or at the standard rate, whichever is more favourable. The employee is responsible for his own income tax and there is generally no requirement for the employer to withhold any tax from the salary paid to the employee, except in limited circumstances on termination of employment where the employee will leave Hong Kong.

The Mandatory Provident Fund Schemes Ordinance (MPFSO) (Chapter 485 of the Laws of Hong Kong) requires employers and employees each to contribute 5% of an employee's relevant income up to an income level of HK$20,000 (as at 1 August 2011, US$1 was about HK7.8) per month to a retirement scheme that is established on a compulsory basis (except where exemptions are granted under MPFSO to pre-existing pension schemes).

In July 2008, the Mandatory Provident Fund Schemes Authority issued guidelines stating that share options and other non-monetary compensation should not be included in an employee's relevant income. However, in any event, most employees that participate in the SOP will have income in excess of HK$20,000 per month, excluding any additional income from the SOP. Therefore, the likelihood that income realised under the SOP will increase the exposure of the employees or the company to MPFSO contributions is extremely low.

Tax/social security on sale. Any gains from subsequent sales of shares are not usually taxable in Hong Kong on the basis that it is a capital gain. This means that losses are also not tax-deductible.

Accounting for tax/social security. The employer will report the gain on exercise to the Inland Revenue Department as part of its annual tax filing for each employee. The employees are personally liable for making their tax payments.

How liability is recovered from employee. As with tax on other income subject to salaries tax, the Inland Revenue Department will assess tax based on the tax return filed and other relevant information. Tax is payable by individuals upon receipt of a notice of assessment.

 

Share acquisition or purchase plans

8. What types of share acquisition or purchase plan are operated in your jurisdiction?

There is no statutorily prescribed form for share acquisition or purchase plans operated in Hong Kong. Employers use the following types of plan:

  • Employee share purchase plan (ESPP).

  • Restricted share/restricted share unit plan (RS/U).

 
9. In relation to the share acquisition or purchase plan:
  • What are the plan's main characteristics?

  • Which types of company can offer the plan?

  • Is this type of plan popular?

ESPP

Main characteristics. The following are the usual characteristics of an ESPP:

  • Employees are usually given the right to participate in the ESPP and to purchase shares in the company if they work for:

    • the company; or

    • one of the company's subsidiaries that has been designated as being eligible to participate.

  • The ESPP can have offering periods that contain multiple, consecutive periods after which the shares can be purchased (purchase periods) (see Question 11, ESPP: Restrictions removed only on conditions being met).

  • ESPPs frequently allow participants to fund share purchases through voluntary after-tax payroll deductions. However, under section 32 of the Employment Ordinance (EO) (Chapter 57 of the Laws of Hong Kong), these deductions are technically unlawful, even when made with the employees' consent. Hong Kong employees must therefore pay the necessary amounts to their employer separately.

  • The employee can withdraw from the ESPP at any time before the end of the purchase period.

  • The purchase price of the shares is discounted from the fair market value of the company's ordinary shares as at the purchase date.

Types of company. Any company can offer an ESPP.

Popularity. ESPPs are more popular with listed than unlisted companies, as it is easier to track the fair market value of listed shares than unlisted shares and employees have a ready market to sell the shares once they acquire them. Although ESPPs are common in Hong Kong, ESOPs tend to be more popular.

RS/U

Main characteristics. The following are the usual characteristics of an RS/U:

  • Under a multinational company's RS/U, the company can grant to certain employees either:

    • shares that are subject to restrictions (restricted shares); or

    • an unfunded promise or right to receive, either in cash or the company's common shares, the value of the company's common shares (restricted share unit). Restricted share units can be subject to certain restrictions.

  • The restrictions on the restricted shares or restricted share units make these awards subject to a risk of forfeiture when the conditions are not complied with (see Question 11, RS/U: Restrictions removed only on conditions being met).

  • The employee can pay either cash consideration or receive restricted shares, restricted share units, and any shares or cash under them, for free.

  • The employee usually receives dividends on the restricted shares. It can be entitled to dividend equivalents (paid in cash or shares) on the restricted share units:

    • when dividends are paid on the shares; or

    • after the restricted share unit has vested.

Types of company. Any company can offer an RS/U.

Popularity. RS/Us are popular with employers and can be granted together in combination with the usual SOPs and ESPPs. RS/Us have become more popular in recent years.

Acquisition or purchase

10. In relation to the initial acquisition or purchase of shares:
  • Can entitlement to acquire shares be awarded on a discretionary basis or must it be offered to all employees on the same terms?

  • Can shares be offered under the plan to non-employee directors and consultants as well as employees?

  • Is there a maximum value of shares that can be awarded under the plan, either on a per-company or per-employee basis?

  • Must employees pay for the shares and, if so, are there any rules governing the price?

  • What are the tax/social security implications of the acquisition or purchase of shares?

ESPP

Discretionary/all-employee. Entitlement to participate in an ESPP can be awarded on a discretionary basis or offered to all employees. Employers must avoid selecting employees on a discriminatory basis (see Question 5, SOP: Discretionary/all-employee).

Non-employee participation. Participation in a SOP can extend to non-employees. However, the offering of shares to non-employees can give rise to different prospectus requirements (see Question 24).

Maximum value of shares. There is no maximum value of shares that can be awarded under the plan.

Payment for shares and price. There is no regulatory requirement that an employee must pay for the shares.

Tax/social security. The Hong Kong Inland Revenue Ordinance (Cap. 112) (IRO) does not have specific provisions on ESPPs. The employee's tax consequences depend on when the employee receives a "perquisite" (on being granted the right to participate in the ESPP or on purchasing the shares (at a discount)). For most ESPPs, the grant of the purchase right is too uncertain to be considered a "perquisite" to the employee. Employees are likely to receive a taxable "perquisite" only when they acquire the shares. If so, the taxable amount is the discount at the time of purchase, that is, the difference between the fair market value of the shares on the date of purchase and the purchase price paid by the employee.

The employer will report the discount on purchase to the Inland Revenue Department as part of its annual tax filing for each employee. The employees are personally liable to make tax payments.

The discount at the time of purchase is not regarded as relevant income for the purposes of the MPFSO (see Question 7: SOP: Tax/social security on exercise).

RS/U

Discretionary/all-employee. Entitlement to participate in the RS/U can be awarded on a discretionary basis or offered to all employees. Employers must avoid selecting employees on a discriminatory basis (see Question 5, SOP: Discretionary/all-employee).

Non-employee participation. Participation in the RS/U can extend to non-employees. However, depending on the characteristics of the RS/U, the offering of RS/U to non-employees can give rise to different prospectus/offering documents/authorisation requirements (see Question 24).

Maximum value of shares. There is no maximum value of shares that can be awarded under the plan.

Payment for shares and price. There is no regulatory requirement that an employee must pay for the shares.

Tax/social security. The IRO does not have specific provisions dealing with the tax treatment of RS/Us. However, the IRD has issued a practice note on employee share-based benefits, which includes a discussion on the taxation of share award benefits.

In respect of share awards, the practice note identifies the crucial point to be when the employee becomes fully entitled to the ownership of the shares. There are two possible approaches to taxation:

  • Taxation at grant. This applies where the employee has the right of an ordinary shareholder at the time of grant and the employee does not need to fulfil further vesting conditions (see Question 11, RS/U: Restrictions removed only on conditions being met). If taxation occurs at grant, the value of the benefit to be taxed is the market value of the shares to be received at the time of grant. A discount is allowed on the valuation of the shares if there are restrictions on sale.

  • Taxation at vesting. This applies where certain conditions need to be satisfied before the employee receives the shares (see Question 11, RS/U: Tax/social security).

If employees have vested shares with all the rights (voting, dividend and so on) of a normal shareholder, the RS/U is taxed at grant even if the grant is subject to certain restrictions (for example, sales restrictions). However, if the RS/U is granted subject to forfeiture during a vesting period, it is taxed on vesting.

The employer is generally not required to withhold any taxes from compensation paid to the employee. The employer must report any taxable benefit arising from the RS/Us as part of its normal annual return of compensation paid to its employees. At the same time, the employee is responsible for declaring the taxable benefit in his own return and paying the tax due.

The grant of rights under the RS/U, and any subsequent realisation of gains, are not regarded as relevant income for the purposes of the MPFSO (see Question 7, SOP: Tax/social security on exercise).

Vesting

11. In relation to the vesting of share acquisition or purchase awards:
  • Can the company award the shares subject to restrictions that are only removed when performance or time-based vesting conditions are met?

  • Are any tax/social security contributions payable when these performance or time-based vesting conditions are met? Who is obliged to account for the liability and by when? How (if appropriate) is the liability recovered from employees?

ESPP

Restrictions removed only on conditions being met. The company can impose performance or time-based vesting conditions.

Tax/social security. See Question 10, ESPP: Tax/social security. The taxation point will usually be on purchase rather than vesting. However, this depends on the particular design of the ESPP.

Social security contributions are not payable (see Question 10, ESPP: Tax/social security).

RS/U

Restrictions removed only on conditions being met. The company can impose vesting conditions on the RS/U. Typically, these restrictions include:

  • A vesting schedule based on the employee's continued employment with the company or its subsidiary.

  • Tying receipt of the shares and/or cash to certain company performance goals.

Tax/social security. If taxation occurs at vesting, the employee is taxed on the market value of the shares to be received at the time of vesting, less any purchase price. A discount is allowed in the valuation of those shares if there are restrictions on their sale.

Social security contributions are not payable (see Question 10, RS/U: Tax/social security).

Sale

12. What are the tax and social security implications when the shares are sold? Who is obliged to account for the liability and by when? How (if appropriate) is the liability recovered from employees?

ESPP and RS/U

Gains from the subsequent sale of shares are usually non-taxable in Hong Kong on the basis that they are capital gains. Similarly, losses suffered on subsequent sales are not deductible. As these gains are not regarded as relevant income under the MPFSO there are no social security implications.

 

Phantom or cash-settled share plans

13. What types of phantom or cash-settled share plan are operated in your jurisdiction?

There is no statutorily prescribed form for phantom or cash-settled plans operated in Hong Kong. Employers are free to design plans to fit their requirements.

 
14. In relation to the phantom or cash-settled share plan:
  • What are the plan's main characteristics?

  • Which types of company can offer the plan?

  • Is this type of plan popular? If so, among which types of company is this plan particularly popular?

Phantom or cash-settled share

Main characteristics. The employee usually receives a cash payout at a future date which is linked to the value of a number of shares, allocated to the employee on a hypothetical but not actual basis, in the employer or group company.

As many statutory payments such as payment in lieu of notice, annual leave pay, sickness allowance, maternity leave pay and certain termination payments are based on an employee's average wages earned during the 12 months prior to the relevant date (for example, the first day of annual leave, maternity leave or the termination date), it is useful to avoid the payments falling within the definition of "wages" to reduce the amount payable for statutory payments. To avoid the payments falling within the definition of "wages", it is recommended to base the payments on annual results, the calendar year or some other annual event. This is because annual contractual payments and annual discretionary bonus are expressly excluded from this definition.

Types of company. There are no restrictions on the type of companies that can offer a phantom or cash-settled plan.

Popularity. These plans are commonly used by employers to incentivise employees in a manner that is linked to the company's share performance but without granting actual rights in relation to their stock. It is also commonly used by unlisted companies to replicate the economic result of stock option plans. These types of plans are increasingly popular as a means to defer cash bonuses. We have also seen phantom plans and other deferred cash-plans that vest not in cash but in restricted stocks which are subject to further sales restrictions.

Grant

15. In relation to the grant of phantom or cash-settled awards:
  • Can the awards be granted on a discretionary basis or must they be offered to all employees on the same terms?

  • Can participation in the plan be offered to non-employee directors and consultants as well as employees?

  • Is there a maximum award value that can be granted under the plan, either on a per-company or per-employee basis?

  • What are the tax/social security implications when the award is made?

Phantom or cash-settled share

Discretionary/all-employee. Entitlement to participate in the phantom or cash-settled plan can be awarded on a discretionary basis or can be offered to all employees. Employers should avoid awarding participation on a discriminatory basis (whether direct or indirect) (see Question 5, SOP: Discretionary/all-employee).

Non-employee participation. Participation in a SOP can extend to non-employees. However, the offering of awards to non-employees can give rise to different prospectus/offering documents/authorisation requirements (see Question 24).

Maximum value of awards. There is no maximum award value.

Tax/social security. As a cash plan, the point of taxation is when the award accrues to the employee, that is, when it is paid to, or dealt with on behalf of, the employee. The IRD's practice note states the tax treatment will depend on whether any actual value is passed to the employee at the time the award is made. If no value passes to the employee, then no tax arises at grant.

The employer will report any award that accrues to the employee to the Inland Revenue Department as part of its annual tax filing for each employee. Employees are personally liable to make tax payments.

Vesting

16. In relation to the vesting of phantom or cash-settled awards:
  • Can the awards be made to vest only where performance or time-based vesting conditions are met?

  • Are any tax/social security contributions payable when these performance or time-based vesting conditions are met? Who is obliged to account for the liability and by when? How (if appropriate) is the liability recovered from employees?

Phantom or cash-settled share

Award vested only on conditions being met. Phantom or cash-settled plans can be structured to vest only when certain conditions are met.

Tax/social security. The tax treatment depends on whether any value passes to the employee at the time when the awards vest (see Question 15, Phantom or cash-settled share plan: Tax/social security).

Payment

17. What are the tax and social security implications when the phantom or cash-settled award is paid out? Who is obliged to account for the liability and by when? How (if appropriate) is the liability recovered from employees?

Phantom or cash-settled share plan

The award is taxed when it is paid out (unless it had already been taxed at grant or at vesting). The amount of the cash payout is taxed together with the employee's other income in the year of payment. The employer is generally not required to withhold any taxes from compensation paid to the employee. The employer must report any taxable benefit arising from the phantom or cash-settled plan as part of its normal annual return of compensation paid to its employees. At the same time, the employee is responsible for declaring the taxable benefit in his own return and paying the tax due.

Whether the payments made under a phantom or cash-settled share fall within the definition of relevant income for MPF purposes, and need to be included in pension contribution calculations, is less clear. Arguably, if the plan is drafted as a share plan, the Mandatory Provident Fund Schemes Authority may take the view that awards fall outside the definition of relevant income.

 

Institutional, shareholder, market or other guidelines

18. Are there any institutional, shareholder, market or other guidelines that apply to any of the above plans, and which types of company are subject to them? What are their principal terms?

Institutional investor guidelines

There are no institutional, shareholder, market or other non-statutory guidelines relating to employee share plans that apply specifically to employee share schemes.

However, where a company listed on the Hong Kong stock exchange or a subsidiary grants options over new securities of the company or one of its subsidiaries for the benefit of specified participants, the Listing Rules (that is, the Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited (Main Board Rules), and the Rules Governing the Listing of Securities on The Growth Enterprise Market of The Stock Exchange of Hong Kong Limited) contain specific provisions. These provisions include requirements relating to the:

  • Total number of securities that can be issued on the exercise of all options granted under the scheme (for example, under the Main Board Rules this must generally not exceed 10% of the relevant class of securities of the listed issuer or the subsidiary in issue as at the date of approval of the scheme, or any other date of approval of a refreshed limit by the shareholders of the listed issuer).

  • Maximum entitlement of each participant under the scheme (for example, under the Main Board Rules, the number of securities issued or to be issued on exercise of options granted to any participant (including both exercised and outstanding options) in any 12-month period must generally not exceed 1% of the relevant class of securities of the listed issuer (or the subsidiary) in issue).

  • Period within which the securities must be taken up under the option (under the Main Board Rules this must be no more than ten years from the grant of the option).

  • Basis of determination of the exercise price.

  • Duration of the scheme (under the Main Board Rules this must be no more than ten years).

The Hong Kong Monetary Authority's Guideline on a Sound Remuneration System (Guideline) affects the design of employee share plans for financial institutions that come under the Authority's regulation (authorised institutions).

The Guideline does not specifically regulate share plans, but it requires authorised institutions to take certain principles into account when designing its remuneration systems. Under the Guideline, share plans should play an important role in the remuneration systems, especially for senior employees. The Guideline is primarily directed towards:

  • Senior employees.

  • Those who duties involve the assumption of a degree of risk.

  • Those who meet quotas and targets in exchange for variable remuneration.

  • Those with risk control functions.

The key principles from the Guideline include:

  • For senior employees, at least 50% of the variable incentive awarded should be in the form shares or other non-cash instruments.

  • For employees whose duties have a material impact on the authorised institution's risk exposure profile, 40% to 60% of their variable remuneration should have a deferral or delayed vesting element.

  • Where the performance assessment time frame exceeds the standard payment cycle, deferral and delayed vesting that matches the extended assessment time frame should be introduced.

  • The performance assessment criteria for the remuneration system should:

    • be ascertainable by employees in advance for transparency purposes;

    • not be overly mathematical so the institution can exercise independent judgement and commonsense in determining the final award;

    • include risk management aspects; and

    • reward individual and group performance.

  • The remuneration system should be discretionary and flexible to give the authorised institution maximum flexibility to withhold or claw back incentive awards in accordance with the performance assessment criteria.

  • There should be a review of the remuneration system by the board of the authorised institution at least once annually.

Other shareholder guidelines

There are no other guidelines applicable.

Market rules or guidelines

There are no market rules or guidelines applicable.

 

Employment law

19. Is consultation or agreement with, or notification to, employee representative bodies required before an employee share plan can be launched? If so, what information must be provided and how long does the process take?

Hong Kong does not have works councils and the unionisation level is low relative to other markets. In the unlikely event that union involvement is required, any consultation, agreement or notification requirements will be subject to any agreement between the employer and the relevant union.

 
20. Do participants in share plans have rights to compensation for loss of options or awards on termination of employment?

There is no specific statutory right to compensation for loss of options or awards on termination of employment.

However, an employee can seek compensation through the Labour Tribunal (if the relevant employee share plan is part of the employee's contract of employment) or otherwise through the Hong Kong courts. Any right to compensation will be determined based on the terms of the employee share plan.

 

Exchange control

21. How do exchange control regulations affect employees sending money from your jurisdiction to another to purchase shares under an employee share plan? If consents or filings are needed, how much will they cost and how long will they take?

There are no general currency restrictions in force in Hong Kong.

 
22. Do exchange control regulations permit or require employees to repatriate proceeds derived from selling shares in another jurisdiction? Are there any conditions for repatriating funds (such as monetary limits, timing, filings or consents)?
 

Internationally mobile employees

23. What is the tax position when:
  • An employee who is resident in your jurisdiction at the time of grant of a share option or award leaves your jurisdiction before any taxable event (such as the amendment, vesting, exercise or release of the option or award or the grant of a replacement) affecting the option or award takes place?

  • An employee is sent to your jurisdiction holding share options or awards granted to him before he is resident in your jurisdiction and a taxable event occurs after he arrives in your jurisdiction?

Resident employee

Hong Kong has a source-based taxation system and residents and non-residents are taxed in a like manner, depending on the source of their employment income.

Broadly, the liability to tax in Hong Kong for benefits under the share plan depend on:

  • Whether the employee has a "Hong Kong employment" or a "non-Hong Kong employment".

  • Where the services that give rise to the awards are rendered.

  • Whether a double taxation treaty is in place between Hong Kong and the relevant country.

"Hong Kong" and "non-Hong Kong" employment are case law created concepts. Under Hong Kong law, there are generally three factors that must be satisfied for an employee to be considered as having a "non-Hong Kong employment". These are:

  • The place where the contract of employment was negotiated and entered into, and is enforceable, is outside Hong Kong.

  • The place of residence of the employer is outside Hong Kong.

  • The place of payment of the remuneration is outside Hong Kong.

Generally, if the employee had a Hong Kong employment at the time of the grant of an option award, or at the time of receiving shares under the ESPP or RS/U, the income from the award is regarded as having been derived from Hong Kong and therefore taxable in full in Hong Kong, subject to limited exemptions. The ability to apportion the gain is limited and the applicable rules for potential apportionment depend on the type of award.

Apportionment is possible for an employee who transfers out of Hong Kong, that is, if the employee had a Hong Kong employment at the time of grant but transfers out of Hong Kong during the vesting period whereupon he provides services outside of Hong Kong. However, for a person who is leaving Hong Kong, it is also possible for him to be taxed on a deemed exercise basis at the time of departure. This provides finality and saves the employee the concern of having to file Hong Kong tax returns after leaving Hong Kong. If the person elects to be taxed on a deemed exercise basis, he is deemed to have exercised all his options (whether vested or unvested) at the time of departure.

Further complications arise if there is a change in employment status (between Hong Kong and non-Hong Kong employment). If the employee had a non-Hong Kong employment at the time of the grant but the award is subject to a vesting period during which he provides services in Hong Kong, the gain that can be attributable to services performed in Hong Kong is subject to Hong Kong tax. It may be possible to apportion the gain between Hong Kong and non-Hong Kong sources.

Non-resident employee

The analysis for a non-resident employee is the same as that set out above for a resident employee. Again, the primary question is whether the employee has a Hong Kong employment or a non-Hong Kong employment, and whether this changed when the employee moves to/out of Hong Kong.

A non-resident person departing Hong Kong permanently may also be allowed to make an election to accelerate the taxation point of their unexercised options and unvested stock awards.

Further, the tax position of the non-resident employee also depends on whether the employee is an overseas tax resident in a jurisdiction that has a double tax agreement with Hong Kong providing treaty protection for employment income.

 

Prospectus requirements

24. For the offer of and participation in an employee share plan:
  • What are the prospectus requirements?

  • Are there any exemptions from prospectus requirements?

  • If so, what are the conditions for the exemption(s) to apply?

  • Are any prospectus/securities laws consents or filings required?

Prospectus needed for employee share plan offer. A document must comply with prospectus content and registration requirements under the Companies Ordinance (Chapter 32 of the Laws of Hong Kong) (CO) where that document:

  • Offers any shares or debentures of a company (whether incorporated in Hong Kong or elsewhere) to the public for subscription or purchase for cash or other consideration.

  • Is calculated to invite offers by the public to subscribe for or purchase for cash or other consideration any shares or debentures of such a company.

Exemption(s) for employee share plan offers. There is an exemption to the prospectus registration requirement for offerings of shares or debentures to qualifying persons (see below).

Conditions for exemptions. In essence, the above exemption is available for an offer:

  • Of shares in or debentures of a company (Company).

  • Made to qualifying persons (see below).

  • Made by:

    • the Company;

    • another company that is a member of the same group as the Company; or

    • the trustees: of a trust established by the Company or a member of the same group; and holding the shares or debenture that are the subject of the offer.

  • On terms that the only persons who can acquire the shares or debentures are the qualifying persons to whom they are offered or, if the terms of the offer permit, any qualifying person.

  • Containing a statement prescribed in the CO, in a prominent position, that:

    • warns that the contents of the document have not been reviewed by a Hong Kong regulatory authority;

    • advises caution in relation to the offer;

    • recommends obtaining independent professional advice if in any doubt over the contents of the document.

Qualifying persons are, in relation to the Company, or of another company that is member of the same group:

  • Current or former bona fide:

    • directors;

    • employees;

    • officers;

    • consultants, that is, persons who, under a service contract, provide services to a relevant company that are commonly provided by an employee of: the relevant company; or a company that belongs to the class of companies that predominantly carry out the same kind of business as the relevant company.

  • A bona fide dependant (that is, a wife, husband, widow or widower, or a child or stepchild under the age of 18) of any of the above persons.

  • A trustee of a trust established by the Company or of a member of the Company's group that can hold shares or debentures on behalf of any of the above persons.

If the above exemption applies to the employee share plan, the offer documents are not subject to the prospectus registration requirement under the CO, nor any other consent or filing requirements.

Section 41 of the CO applies the prospectus registration requirement to situations where an offering is made with a view to secondary offers of the shares or debentures to the public. Section 41(2) creates a rebuttable presumption that secondary offers to the public were intended, if an offer of the shares or debentures for sale to the public is made within six months after the original allotment or agreement to allot the shares or debentures. The company can mitigate this risk by careful structuring of the employee share plan (for example, by imposing vesting schedules or restrictions on disposal of shares for a period of time). However, in practice, the risk of the section 41(2) presumption becoming relevant is typically low in the context of employee share plans because it would be rare for an employee to have a significant enough holding of shares or debentures to consider disposing of his stake by means of a public offering, or to use any offering document in connection with such an offer or sale.

Consents or filings. Where the employee share plan involves the offering of phantom or cash settled awards or products other than shares or debentures of a company, the above exemption under the CO may not apply and the document may require authorisation from the Hong Kong regulators under the Securities and Futures Ordinance (Chapter 571 of the Laws of Hong Kong) (SFO). To avoid the authorisation requirement, it may be necessary to rely on offering by way of private placement (which is not subject to the prospectus registration requirement) or other exemptions based on the nature and characteristics of the securities or products involved (see Question 24).

Authorisation is needed for phantom or cash settled awards or products (for offers of products other than shares and debentures). Where the employee share plan involves the offering of phantom or cash settled awards or products other than shares or debentures of a company, the above exemption under the CO will not apply. Instead, depending on the nature of the awards or products, the offering document may require authorisation from the Hong Kong regulators under the SFO unless another exemption is available.

Exemption(s) for phantom or cash settled awards or products. There is an exemption to the authorisation requirement for offerings of the phantom or cash settled award or product to employees (see below).

Conditions for exemptions. In essence, the above exemption is available if the phantom or cash settled award or product is both:

  • A product under which some or all of the return or amount due (or both the return and the amount due) or the method of settlement is determined by reference to securities of a company or a group company.

  • Issued by the corporation only to a person who is a current or former:

    • bona fide employee of the company or a group company;

    • a spouse, widow, widower, minor child (natural or adopted) or minor step-child of the above employee.

If the above exemption applies to the phantom or cash settled award, the offer documents are not subject to the authorisation requirement under the SFO, nor any other consent or filing requirements.

If the above exemption is not available, to avoid the authorisation requirement, it may be necessary to rely on offering by way of private placement (which is not subject to the prospectus registration requirement under the CO nor the authorisation requirement under the SFO) or other exemptions based on the nature and characteristics of the securities or products involved.

Consents or filings. Other than the above, employee share plans are not subject to any other securities regulatory consent or filings requirements.

 

Other regulatory consents or filings

25. Are there any other regulatory consents and filing requirements and/or other administrative obligations for an offer of and participation in an employee share plan?

Other than the above, employee share plans are not subject to any other securities regulatory consent or filings requirements.

 

Formalities

26. What are the applicable legal formalities?

Translation requirements. There is no legal requirement to translate the share plan documents into a local language in Hong Kong and it is common to present the documents in English only. However, if any of the participants have difficulty understanding English, translation is recommended to ensure that participants understand the terms of the plan.

E-mail or online agreements. Under the Electronic Transactions Ordinance (ETO), electronic consent in the context of SOPs, ESPPs and RS/Us is permitted as long as certain requirements are met.

The ETO provides, except in certain circumstances, that:

  • An electronic record satisfies any requirement for the information to be given in writing, provided the information contained in the electronic record is accessible so as to be usable for subsequent reference.

  • Unless otherwise agreed by the parties, an offer and the acceptance of the offer may be in whole or in part expressed by means of electronic records.

With respect to electronic acceptance and exercise of options, there are two issues:

  • First, whether there are any legal requirements for the agreement or consent that an employee gives under SOPs, ESPPs and RS/Us or exercise notice to be in a prescribed form.

  • Second, whether there are any issues with respect to the formation and validity of the agreement between the Company and its Hong Kong employees when an employee participates electronically.

For example, the Personal Data (Privacy) Ordinance (PDPO) requires that the employee's consent to the transfer of personal data outside of Hong Kong be in writing. (Although that particular provision is not yet in force, compliance is recommended.) If the SOPs, ESPPs and RS/U documents include the PDPO consent from employees, then if employees accept options online, the electronic record would satisfy the requirements of the PDPO that the agreement be in writing, provided the electronic record can be used for subsequent reference. If the electronic record cannot be used for subsequent reference, then the Company would not be able to use electronic means to obtain employees' consent to a personal data transfer.

As a practical matter, the following precautions should be taken when the participant's agreement is sought electronically and/or online:

  • Participants should be given passwords to access the Company's web portal.

  • The Company's web portal should be hosted in a secure environment (for example, persons can only have access to the portal by using their assigned passwords).

Witnesses/notarisation requirements. Witnessing or notarisation of the participant's consent is not required for the consent to be effective.

Employee consent. Employee consent is strongly recommended as a condition for participation in the relevant plan so that the employee is contractually bound by the terms and conditions upon which the benefits under the plan are granted.

However, payroll deductions for share purchases and other funds to be remitted to the plan administrator are an issue in Hong Kong, even if there is employee consent. Section 32 of the EO restricts the circumstances in which an employer can lawfully make deductions from the wages and other payments paid to employees. Such deductions are unlawful, except where the EO allows them, and the deductions in the aggregate cannot exceed one-half of the employee's average wages for the relevant wage period.

The EO permits payroll deductions in the case of a "deduction made at the request in writing of the employee with respect to contributions to be paid by him or her through the employer for the purposes of any medical benefit scheme, superannuation scheme, retirement scheme or thrift scheme lawfully established for the benefit of the employee or his dependants". There is no specific reference to SOPs, ESPPs and RS/Us. It may be argued that SOPs, ESPPs and RS/Us are thrift schemes, but this term is not defined in the legislation and it is, therefore, not certain if this argument could be successful.

The EO also permits deductions to be made (at the written request of the employee) with the approval of the Commissioner of Labour (Commissioner). In one case where a request was made to the Commissioner for approval of deductions for the purposes of an employee stock purchase plan, the Commissioner refused to give approval. In view of the Commissioner's response on the general question, there is a risk that the Commissioner may take the attitude that payroll deductions for the purposes of share plans and similar plans are not lawful under the EO.

If deductions are not lawful, the making of those deductions is a criminal offence carrying a maximum fine of HKD100,000 and imprisonment for one year. The penalty falls on the person who makes the unlawful deductions from wages, not on the plan administrator (that is, the penalty is likely to fall on the local employer). Despite this criminal offence, some companies in Hong Kong do administer share plans and similar plans through payroll deductions. Although existent, the risk of the penalties being enforced is relatively low.

Any risk with respect to unlawful payroll deductions can be avoided if employees who wish to participate in the share plans and similar plans agree to make their contributions to purchase stock either:

  • By way of standing orders from their bank accounts (after salary has been paid into the account).

  • By cheque.

 

Developments and reform

27. Please briefly summarise:
  • The main trends and developments (including market practice) relating to employee share plans over the last year.

  • Any official proposals for reform of any laws which will affect the operation of employee share plans.

Trends and developments

The main trend in recent years is for companies to grant a combination of various types of share-based remuneration schemes to employees. In particular, there is a global trend, particularly in the financial sector, to defer remuneration. This has led to more plans designed not just with longer vesting schedules, but also a combination of various features, such as options that vest in restricted stocks or discretionary cash bonuses being contributed into restricted stocks.

Reform proposals

There are no reform proposals in the pipeline.

 

Contributor details

Jacqueline Shek

Baker & McKenzie 

T +852 2846 2154 
F +852 2845 0476
E jacqueline.shek@bakermckenzie.com
W www.bakermckenzie.com

Qualified. Hong Kong 2005; New South Wales, Australia 1999.

Areas of practice. Tax.

Recent transactions

  • Assisted a European funds management company with structuring and drafting employee incentive, carry interest and co-investment plans for its fund managers and key employees in Asia.
  • Advised numerous US, UK and Hong Kong listed companies on the tax issues associated with implementation of various employee incentive plans in Hong Kong.
  • Assisted a corporate group with the restructuring of its management incentive plan in anticipation of the spin-off and listing of a business unit of the group.
  • Advised a HK corporate group on tax issues associated with termination of an option plan and transfer of employees to cash or restricted stock plans, including drafting of relevant documents and liaising with the Inland Revenue Department on the appropriate tax treatment.

For more details of recent transactions, publications, and so on, see full PLC Which lawyer? profile here.

Jennifer Van Dale

Baker & McKenzie 

T +852 2846 2483
F +852 2845 0476
E jennifer.van.dale@bakermckenzie.com
W www.bakermckenzie.com

Qualified. Hong Kong, 1999

Areas of practice. Employment.

Recent transactions

  • Assisted with the Asia-Pacific employment-related aspects of the merger and integration of two prominent global financial institutions, including advising on transfer of employment, employment contracts, employee handbooks and engagement of contingent workers and independent contractors.
  • Assisted a significant global financial institution with its harmonisation of employment documentation across the Asia-Pacific region.

For more details of recent transactions, publications, and so on, see full PLC Which lawyer? profile here.

Karen Man

Baker & McKenzie 

T +852 2846 1004
F +852 2845 0476
E karen.man@bakermckenzie.com
W www.bakermckenzie.com

Qualified. New South Wales, Australia, 1997; England and Wales, 1999; Hong Kong, 2000

Areas of practice. Financial services.

Recent transactions

  • Advised an international financial institution on the offering of structured phantom scheme to key employees in Hong Kong.
  • Advised numerous US, UK and Hong Kong listed companies on securities regulatory issues associated with the offering and implementation of employee incentive plans in Hong Kong.

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