Impact of the tax reform on the compensation of employees and senior managers

As is stated in the preamble to the Law amending the Spanish Personal Income Tax (PIT) Law (35/2006 of November 28, 2006), the objective of the tax reform recently published in the Official State Gazette is: (i) to offer a generalised reduction of the tax charge borne by taxpayers, through measures which will lessen the taxes they are required to pay and increase their net disposable income, as is the case with the new tax rate applicable to the general component of net taxable income for 2015 and 2016; and (ii) to progress towards a situation of greater equity, by eliminating or restricting the application of certain tax incentives which reduced the taxable income, such as the exemption applicable to the recipients of dividends.

The tax reform includes measures which affect, among other questions, the taxation of severance pay for redundancy or dismissal, the reduction applicable to income generated over more than two years, the tax regime applicable to retirement savings schemes (life insurance, pension plans and the newly-defined concept of the long-term savings plan) and the tax benefits applicable to workers posted to Spanish territory, in addition to the taxation of capital gains generated by ownership interests in any kind of entity which arise upon a change of residence.

In relation to the reduction applicable to income generated over more than two years (“multiyear income”) regulated in Article 18.2 of the PIT Law, which applies, among others, to income deriving from medium and long-term compensation schemes, the main changes introduced by the tax reform are:

• The reduction percentage has gone from 40% to 30%.

• Income generated over more than two years is required to be allocated to a single tax period, with the special apportionment rule having been eliminated, except in the case of severance payments for the termination of an employment relationship.

• The condition that such income cannot be obtained periodically or on a recurrent basis has been done eliminated.

• The reduction does not apply to income generated over more than two years where, in the five tax periods preceding that in which it becomes claimable, the taxpayer has obtained other income generated over more than two years to which the reduction has been applied.

• The rule whereby the reduction between Euros 700,000 and 1.000.000 is lost in the case of severance payments or indemnities for dismissal or termination of an employment or mercantile relationship continues to apply.

• The specific rule which applied to stock options has been eliminated, and these options will now be taxed in the same way as any other salary income classed as “multiyear”, with a transitional regime being established for salary income deriving from the exercise of stock options granted prior to January 1, 2015.

These changes in the tax regime applicable to compensation schemes benefitting employees and senior manager mean that the design of medium and long-term compensation schemes implemented by companies will need to be reviewed.

Garrigues Tax and Human Capital Services Departments