Transformative Global Changes and Their Impact on Labor Relations: are equity plans the solution?

In recent years, the labour market has undergone significant transformations, profoundly impacting the dynamics between employers and employees. The onset of the COVID-19 pandemic, coupled with global macro-economic instability, has presented unprecedented challenges for companies, particularly in talent retention, leading to record-high employee turnover rates.

The emergence of the Great Resignation, also referred to as the Big Quit or the Great Reshuffle, originated as an American economic trend in early 2021, witnessing a surge in voluntary resignations on a large scale. This trend swiftly transcended borders, reaching Portugal. Furthermore, Portugal grapples with one of the highest rates of youth emigration in Europe and globally, largely attributed to factors such as low salaries and a dearth of incentives.

Compounding these challenges, Portugal is often criticized for its inflexible and burdensome tax infrastructure, with both employees and companies bearing heavier tax burdens on their income compared to many European jurisdictions.

A relatively recent Law concerning startup and scaleup companies has enhanced the Portuguese tax regime for stock options and share acquisitions granted to employees. The new rules represent a potential turning point in the tax treatment of such arrangements, however their application is not without uncertainties.

1. How are the ongoing shifts in the labour market, such as the Great Resignation and increasing emigration rates among young people, affecting Portuguese companies, and what strategies can these companies implement to navigate and thrive in this evolving landscape?

Companies must adopt a novel approach by providing employees with enduring solutions that can enhance their commitment and resilience in their roles. Research has demonstrated that equity incentive plans possess the capacity to bolster resilience during economic turbulence, attract and retain top talent, and enhance workforce stability. Moreover, granting employees a heightened sense of responsibility and ownership yields invaluable benefits.

2. How do equity incentive plans serve as effective tools for talent retention, and why should employers in Portugal now be considering this option?

Equity incentive plans serve as potent mechanisms for talent retention due to their ability to align the interests of employees with those of the company. By offering employees ownership stakes or stock options, companies create a direct link between individual performance and organizational success, motivating employees to remain committed and engaged in achieving long-term objectives.

Portugal’s recent overhaul of the taxation regime for equity plans notably slashes the tax burden, a crucial advantage given Portugal’s considerable tax wedge. Ultimately, this facilitates the enhancement of remuneration packages’ efficiency.

3. If equity incentive plans offer such substantial benefits, why hasn’t Portugal largely embraced them until now?

Until recently, equity incentive plans were not widely adopted in Portugal. This can be attributed to several factors, including the traditionally low average monthly salary and the absence of tax incentives for such schemes. However, there has been a noticeable shift in this trend as Portuguese employers increasingly recognize the value of equity-based remuneration. This change is further fuelled by the growth of venture capital investment in Portugal in recent years, which has encouraged companies to explore new approaches to talent retention and motivation.

Historically, only large companies, which represent a small percentage in Portugal, offered equity incentives to their top-level executives. Meanwhile, the majority of companies, particularly those in the middle range, had not considered implementing such schemes.

The introduction of the new tax regime for equity plans is expected to catalyse this shift further, providing a much-needed boost to the adoption of equity incentive plans among Portuguese companies across the board.

4. Which companies are eligible to offer equity incentive plans to their employees, and what are the main requirements for implementing these plans?

The requirements for a company to offer equity incentive plans to their employees are relatively straightforward and generally include all Portuguese entities, with a particular focus on small to mid-sized companies. However, foreign or larger companies that do not meet the “size” criteria can also be eligible for the new regime if they operate in an innovation sector. Establishing employee ownership is typically easier for new businesses, as the process is less complex compared to more established businesses with significant accrued value. This regime is applicable to various forms of share capital, including shares, options, and restricted shares.

5. What are the main benefits of the new tax regime applicable to stock options and share acquisitions granted to employees?

The most significant and innovative aspect of this tax regime, aligned with international trends, is that taxation is applied solely to actual gains. In other words, taxes are deferred until either the shares are transferred, or the beneficiary relocates their residence outside of Portugal. Before the introduction of these rules, taxation was based on potential gains, triggered when the employee exercised the option, acquired the shares, or when any restrictions on the shares were lifted.

Under the current rules, only 50% of the gain is considered, and it is subject to a flat tax rate of 28%, rather than being added to the total income and subjected to progressive tax rates, which can reach up to 48%. In practical terms, the gains under the new tax regime are effectively taxed at a flat rate of 14%.

Furthermore, no social security contributions are imposed on these gains, reducing the overall tax burden.

6. In your view, what are the main objections to the new tax regime?

A potential objection to the new tax regime is the lack of clarity in its rules, which may create uncertainty in its practical application. For example, the taxation under the regime hinges on holding the option or right to acquire shares for one year. However, the regime does not offer clear guidance on how this one-year holding period should be calculated, leaving room for differing interpretations. Also, the regime is not clear regarding its scope of application.

Despite these concerns, we believe that this new tax regime represents a highly positive development for the Portuguese labor and corporate markets. It has the potential to greatly enhance their global attractiveness.