New ESOP regulations in the eyes of our CEO, Stefan Surina

There has been a lot happening in the startup world in 2023, but more is to come in 2024. Slovakia took a significant step forward in enhancing the ESOP (Employee Stock Ownership Plan) legal framework, and Czechia soon followed. Starting on January 1, 2024, each country has its new legislation for ESOP regulations. What does our CEO, Stefan Surina, have to say about them, what are the core benefits for startups, and what could have been improved?

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Why are government rules for ESOP important?

Government regulations, especially tax benefits, play a crucial role in shaping ESOP policies. These benefits can increase employees’ financial resources, potentially enabling them to invest in or start new ventures. By providing tax advantages, ESOP can enhance employees' wealth, giving them capital to start new entrepreneurial opportunities.

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What are your thoughts on Slovakia's new ESOP regulations?

Slovakia's new ESOP regulation marks a turning point, in terms of delaying the tax payment and switching the gain from employment income to capital gain. This primarily benefits employees and contractors of Slovak companies that haven't paid dividends or been traded on regulated markets. But it favors larger companies due to restrictions on s.r.o. companies' share capital. Emerging startups might still prefer virtual phantom plans. Unfortunately, the proposed exclusion on share sales after three years of holding was canceled within the consolidation package of the new Slovak government.

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How do the Czech and Slovak regulations differ?

Czech’s approach is similar in terms of tax deferral. The ESOP isn't taxed at grant or exercise. Instead, the taxable moment is either at the selling point of those assets, termination of employment, change of tax residence, or other. The tax will be paid by the company. The downside is the uncertainty of when will the tax trigger occur. Companies must keep enough cash reserves to be able to pay taxes once the trigger occurs, i.e. when an employee leaves the company.c The main difference between those two legislations is that the Czech legislation applies to employees only and the gain is taxed as employee income. Also, the tax benefits extend to ESOP plans created on entities outside of Czechia.

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What should these regulations have included or changed?

In Slovakia, aligning the regulation with corporate governance reforms would make it more startup-friendly. Cancelling minimum contributions to registered capital in s.r.o. companies could benefit smaller businesses. It's also crucial to extend benefits to Slovak employees of innovative companies with foreign headquarters.

In Czechia, it would be ideal to transfer the tax payment from the company to the employee. The tax would be payable once the ESOP is liquified and the employee could take the cash from their ESOP to pay the tax. This would minimize the burden on companies who now need to keep big cash reserves for paying taxes.

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Are those regulations startup-friendly?

It’s a step in the right direction. However, the regulations should provide clear benefits also for early-stage startups. Those companies need ESOP the most as they need to attract top talent and are unable to pay them in cash.

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Do you expect any changes in startups’ behavior?

Larger startups may consider transitioning to stock-based programs under these regulations. But this solution is from my point of view not ideal for early-stage startups. For those, the ideal plan remains to be a phantom plan.

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What are the implications for startups with existing ESOP plans?

The new regulations don't affect phantom programs. For stock-based plans, the taxation of grants or exercises might be postponed. This is a positive, but companies must prepare for future tax liabilities.

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Any final comments?

Although not perfect, these developments are crucial in advancing the startup ecosystem in Slovakia and Czechia. Even though only a small portion of startups will use the programs, we at Eldison believe that gradually, we’ll come to legislation that will benefit people working for startups. They will then re-use the funds to further support the startup environment in our countries.