An employee exercising options to company’s shares is not necessarily a shareholder with shareholders rights as long as those shares are held by the trustee
According to a recent decision in the Haifa District Court – Civil Case 19042-03-18 Navon vs. Sol Chip Ltd. – an employee has been granted options to purchase shares of a startup company in accordance with an options plan, according to Section 102 of the Income Tax Ordinance.
One of the conditions for an employee to benefit from the tax advantages of Section 102 of the Income Tax Ordinance, is that the options or shares granted would be held in escrow by a trustee for at least two years from the date of the grant of those options or shares (“102 Trustee”).
In this case, the employee exercised the options to the Company’s ordinary shares and claimed that now he became a shareholder of the Company and as such he is entitled to shareholders’ rights, including information rights granted to shareholders and right to attend and vote in shareholders meetings.
The Company objected, claiming that as the Company’s shares are registered in the name of the 102 Trustee (and not the employee), the employee is not a shareholder and has no shareholders rights. In addition, the Company referred to a proxy that the employee signed in connection with his shares.
In considering the matter, the Court examined the nature of the trust for the purpose of Section 102 of the Income Tax Ordinance. The Court noted that the 102 Trustee is trustee for the benefit of three parties: (1) Tax Authority – to ensure that tax payments will be paid as required in connection with the options or shares granted to the employee; (2) Company – to ensure that exercising the options or shares will not damage the Company; and (3) employee – to ensure that the employee will receive his rights, options or shares subject to the payment of applicable tax. The Court further noted that trust obligation of the 102 Trustee is first and primarily toward the Tax Authority.
The Court rejected the employee’s argument that the trust relationship solely intended to deprive him from the right to trade or transfer the options or shares. In light of the above, the Court decided that as long as the employee maintains the shares with the 102 Trustee, the employee has no shareholders’ rights with respect to the Company.
Accordingly, an employee, who wishes to benefit from shareholders’ rights, should transfer to his ownership (or ownership of a third parties) the shares held by the 102 Trustee. Such transfer shall be subject to tax payment and if such transfer occurs within two years of the date of grant of the options or shares, then the employee may also lose the tax advantages of Section 102 of the Income Tax Ordinance.
This newsletter is provided for informational purposes only, is general in nature, does not constitute a legal opinion or legal advice and should not be relied on as such. If you are seeking legal advice, it is essential to review the specific facts of each case in detail with a qualified lawyer.
The review was written by Adv. Dr. Ziv Preis, Partner and Co-Heads of the Cross Border Mergers & Acquisitions, Banking & Finance Department and Adv. Ben Liraz, Associate in the Cross Border Mergers & Acquisitions, Banking & Finance Department