10.3 Permanent Differences Resulting From Share-Based Payment Awards
As indicated in ASC 718-740-25-3, recognition of compensation cost
for share-based payments that “ordinarily do not result in tax deductions” do not
give rise to deferred taxes for financial accounting purposes. In addition, excess
tax benefits and tax deficiencies result in permanent differences between the amount
of cumulative compensation cost recorded for equity-classified share-based payments
and the amount of the corresponding tax deduction taken for tax purposes as
discussed in Section
10.2.4.1. Other circumstances that result in permanent differences
are discussed in the next sections.
10.3.1 Equity- and Liability-Classified Awards That Do Not Ordinarily Result in a Tax Deduction
ASC 718-740-25-3 indicates that the cumulative amount of
compensation cost for awards that would not ordinarily result in a future tax
deduction under existing tax law does not represent a deductible temporary
difference. No deferred taxes would be recorded for these awards unless a change
in circumstances occurs. A common example of this type of an award is an ISO
(see Section 10.1).
When an entity issues an ISO, it will record compensation cost as the award is
earned but will not receive a tax deduction upon the holder’s exercise of the
award (i.e., a tax deduction will result only if the holder subsequently
disposes of the shares in a disqualifying disposition). Thus, the resulting book
expense is considered a permanent book-to-tax difference and will have the
effect of increasing the issuing entity’s ETR.
10.3.2 Tax Benefits of Dividends on Share-Based Payment Awards
ASC 718-740
Tax Benefits of
Dividends on Share-Based Payment Awards to
Employees
45-8 An income tax benefit from
dividends or dividend equivalents that are charged to
retained earnings and are paid to grantees for any of
the following equity classified awards shall be
recognized as income tax expense or benefit in the
income statement:
-
Nonvested equity shares
-
Nonvested equity share units
-
Outstanding equity share options.
As discussed further in Section 3.10 of Deloitte’s Roadmap
Share-Based Payment
Awards, the terms of some share-based payment awards
permit holders to receive a dividend during the vesting period and, in some
instances, to retain the dividend even if the award fails to vest. Such awards
are commonly referred to as “dividend-protected awards.” Dividend payments made
to grantees for dividend-protected awards should be charged to retained earnings
to the extent that the awards are expected to vest. If an employee is entitled
to retain dividends paid on shares that fail to vest, the dividend payment for
dividend-protected awards that are not expected to vest should be charged to
compensation cost.
For income tax purposes, dividends paid on such awards may
result in a tax deduction and corresponding income tax benefit. The income tax
benefit resulting from payment of dividends on (1) nonvested equity shares, (2)
nonvested equity share units, and (3) outstanding equity share options should be
recorded as an income tax benefit in the income statement. If the dividend is
charged against retained earnings for pretax accounting purposes, a permanent
difference will result.