Hong Kong Company Equity Incentive Plan: Legal Framework
Under Hong Kong law, there are a number of different legal aspects involved in company equity incentive plans. In summary, at a legal level, the following laws are most likely to be involved.
(1) Company law. The establishment of an equity incentive plan may involve the issue of new shares of the company as incentivised shareholdings. The issuance of new shares of the Company will need to follow the procedures set out in the Companies Ordinance and the Articles of Association of the Company, e.g. a resolution of the shareholders’ meeting of the Company is required to approve the issuance of the new shares before a resolution is made by the Board of Directors.
(2) Contract law. When a previous arrangement between the Company and an employee regarding the granting of stock options, stock subscription rights, etc. under a plan becomes effective, it constitutes a previous contractual arrangement between the Company and the employee and is subject to the terms of the contract (and the terms of the stock options, restricted stock, stock appreciation rights, etc.).
(3) Labour Law. Benefits received by an Employee as a result of an equity incentive plan constitute part of the Employee’s labour compensation and income and are protected and subject to labour laws.
(4) Tax Law. Benefits received by employees as a result of the equity incentive plan are also required to be reported to the tax authorities as part of the employee’s labour compensation in the employee’s annual salary tax return, and the Company is required to report to the tax authorities as labour compensation paid to the employee.
(5) Trust law. Many equity incentive plans (particularly restricted stock type equity incentive plans) involve the transfer of such equity used for incentive purposes to be held by a trustee. The trustee holding the incentive stock becomes the legal holder of the stock, and the company or employee who established the equity incentive plan becomes the beneficial owner of the stock (upon exercise). This relies on arrangements under trust law.
(6) Relevant anti-discrimination laws. It is of course possible to set different conditions for all or some employees to participate in the benefits of an equity incentive plan, but it is not permissible to discriminate on the grounds of sex, disability or race. In this regard, Hong Kong has various laws such as the Sex Discrimination Ordinance, which is enforced by the Equal Opportunities Commission.
(7) Relevant laws on privacy protection. The implementation of an employee equity incentive plan will inevitably lead to the collection of some personal information of employees, which is protected by the law on the protection of personal privacy and is collected and kept in accordance with the provisions of the law.
(8) Requirements under the Listing Rules. For listed companies, Chapter 17 of the Main Board Listing Rules and Chapter 23 of the GEM Listing Rules provide relevant requirements on stock options, which listed companies are required to comply with.
Type | Option | Restricted shares |
Incentive object | Directors, senior executives, key employees, etc. | Directors, senior executives, key employees, etc. |
Award subject | Option | Restricted stock |
Consideration | Gift or paid | Gift or paid |
Which company’s shares? | Hong Kong company or overseas parent company | Hong Kong company or overseas parent company |
Grant documents | Option plan; Option agreement or option award grant notice | Restricted stock plan; Restricted stock agreement or restricted stock award notice |
Stock source | Existing stocks or newly issued stocks | Existing stocks or newly issued stocks |
Exercise conditions | The exercise conditions for options are stipulated in the grant document, which often include length of employment, performance, etc. | The conditions for converting restricted stock into unrestricted stock are stipulated in the grant document, which often include length of employment, performance, etc. |
In addition to stock options and restricted stock, other common forms of employee incentive plans include restricted stock unit plans, deferred cash awards, virtual stock plans, and stock appreciation rights plans.
Tax Reporting of Employee Incentive Plans by Companies
If the company implementing the incentive scheme is a Hong Kong company, the benefits received by the employees under the employee incentive scheme will form part of the employees‘ income, which the employees are required to report in their annual tax returns, and the company is also required to report the income paid to the employees in its annual return of employees’ income to the Inland Revenue Department (IRD).
For tax reporting purposes, the point in time for reporting should be the year in which the employee actually acquires the shares or income (in whole or in part). It is not necessary to report just the acquisition of options, but it is necessary to report the tax year in which the shares were acquired. The amount of income reported should be the amount of income the employee actually receives from the plan. For example, if the price of the stock is $10 per share and the market value of the stock is $25 per share, then the employee receives $15 per share.
For any legal issues relating to employee share schemes in Hong Kong companies, please consult the solicitors in our Corporate and Commercial Law team. Contact: [email protected].