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Changes to Accounting Rules Alter Approach to Share-Based Withholding

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Earlier this year the Financial Accounting Standards Board released Accounting Standards Update No. 2016-09 (the “ASU”) to improve the accounting treatment of certain stock-based compensation payments.  Among other updates, the ASU modifies the manner in which employers withhold on stock-based compensation awards. 

Under the current accounting rules, one requirement for favorable equity (rather than liability) accounting treatment is that the employer limit the amount it can withhold in connection with stock-based withholding to the minimum statutory amount necessary to satisfy taxes.  The ASU provides that equity accounting treatment will be retained if an employer withholds at the maximum statutory amount necessary to satisfy taxes (or allows the employee to elect his or her withholding rate as long as the elected rate does not exceed the maximum statutory rate in the employees’ applicable jurisdiction).  This change gives an employer the flexibility to withhold at a higher rate, which is less likely to result in underwithholding in connection with the settlement/exercise of stock-based awards (in certain instances underwithholding could require an employee to have to make quarterly tax payments which could be administratively burdensome for the employee).

Many equity plans and award agreements specifically provide that the minimum statutory withholding rate will apply in the context of a net issuance/award subject to share-based withholding.  Employers wishing to avail themselves of the flexibility permitted by the ASU may wish to review their equity program documents to determine whether amendments will be required.  They may wish to also consult with their auditors regarding the other changes set forth in the ASU.  Finally, employers that want to give their employees the flexibility to elect their withholding rate should consider the administrative issues that might flow from such election.

For public companies the ASU is effective for fiscal years beginning after December 15, 2016 but changes made in response to the ASU may be adopted early for interim periods prior to December 15, 2016.