ACCA Advanced Taxation (ATX) Practice Exam

What is the tax charge on exercising options in a non-tax advantaged scheme?

1. VAT charge based on market value

2. Income tax charge on market value at exercise

3. Capital gains tax based on sale price

4. No tax charge applies

The correct answer is: Income tax charge on market value at exercise

In a non-tax advantaged scheme, when an individual exercises stock options, the most relevant tax charge is indeed the income tax charge on the market value of the shares at the time of exercise. This means that when an employee exercises their stock options, they are subject to income tax based on the difference between the market value of the shares at that time and any amount they pay for the shares (if any). This income tax is calculated as additional income and is subject to the individual's marginal tax rate. This approach aligns with the principle that the exercise of options is considered a form of compensation, thus subject to income tax. The tax is applied at the point of exercise because that's when the employee realizes a benefit from the options, which is different from the eventual sale of the shares that could incur capital gains tax at a later stage. Other choices may not be applicable in this context: VAT does not typically apply to the exercise of options, and capital gains tax would only come into play upon the sale of the shares, not at the exercise stage. Additionally, stating that no tax charge applies contradicts the general taxation principles in such scenarios, where income arising from employment-related benefits is typically taxable.