Owing to the globalisation of the markets and the current economic situation, Spanish companies have undergone a major process of internationalisation, with increasing numbers of employees and executives having been posted abroad in recent years.
As a consequence of this internationalisation process, executive remuneration has been affected on certain legal and tax issues.
In this regard, the Spanish tax legislation has been including some regulations to (1) promote the mobility of employees and executives to foreign countries, and (2) attract talent to be located in Spain.
From a corporate governance point of view, the remuneration of directors and executives has recently increased public interest in both listed and unlisted companies. Institutional shareholders pay special attention to the remuneration policies of executives and directors, as they are considered a reliable indicator of good corporate governance of companies.
This attention has been manifested in recent years in the issuance of recommendations and codes of good practice of membership associations, and the use by the companies of advisers on corporate governance, 'proxy advisers' (i.e., ISS, Glass Lewis & Co., etc.) to define the position with regard to matters related to remuneration of members of the board of directors and executives.
The main objective of this chapter is to provide an overview of the Spanish tax and legal implications for directors' and executives' remuneration.
i Income tax for employees and executives
Under Spanish Personal Income Tax Law2 (SPIT Law), an individual is tax resident in Spain if one of the following requirements is met:
a When the individual remains in Spain for more than 183 days in the calendar year. Sporadic absences are not considered unless the individual provides evidence that he or she is a tax resident of another country.
b When the individual's place of activities or centre of economic interests is directly or indirectly located in Spain.
Additionally, SPIT Law establishes a rebuttable presumption whereby the individual is deemed to be tax resident in Spain where, pursuant to the foregoing test, his or her spouse (not legally separated) and minor children, who are dependants of the individual, habitually reside in Spain.
For the purposes of tax residence, it is important to note that Spanish legislation does not allow the tax year to be split. Consequently, if a person meets the test to be deemed resident or non-resident in Spain for tax purposes, he or she will maintain that status for the entire tax year, that is, from 1 January to 31 December.
In practice, and assuming that this is a controverted issue, the Spanish Tax Authority (STA) usually accepts, as evidence to prove the tax resident status in another country, the tax resident certificate issued by the local tax authority within the meaning of Article 4 of the Double Tax Treaty.
Tax residents are subject to personal income tax (PIT) on their worldwide income, regardless of the residence of the payer and where the income has been obtained, according to a progressive scale between 19 and 45 per cent (the 45 per cent would be applicable for a tax base as from €60,000) in tax year 2018.3
Saving income (i.e. dividends, interest and capital gains) is subject to taxation in Spain according to a progressive scale between 19 and 23 per cent (the 23 per cent would be applicable for a tax base as from €50,000) in tax year 2018.
Non-tax residents are subject in Spain to Non-Resident Income Tax4 (NRIT) only for the income deemed to be obtained or generated in Spain.
In this sense, employment income is deemed to be obtained or generated in Spain when it is derived, directly or indirectly, from an activity performed in the Spanish territory. The flat tax rate applicable for non-tax residents in Spain in 2018 is 24 per cent, or 19 per cent for tax residents in another European Union (EU) Member State or in the European Economic Area (EEA).
In particular, savings income obtained by non-resident taxpayers are taxed at a flat tax rate of 19 per cent.
ii Social taxes for employees
Under Spanish legislation, companies must pay social security contributions to cover the social benefits to which employees have a right within the framework of the social security system. The obligation to contribute arises at the beginning of employment and continues throughout, including the situations of temporary incapacity, maternity, paternity or risk during a pregnancy.
The contribution base for social security charges in Spain does not exactly correspond to the base for income tax purposes. As a general rule, any income would generally be subject to social security charges and there are some concepts that are not taxable but, conversely, are part of the contribution base.
The monthly base is capped at €3,803.70.5 The employee contribution is 6.35 per cent (i.e., €241.53 per month). The aggregated rate for the employer contribution depends on the type of contract and the type of activity but generally ranges between 31 and 34 per cent.
Employees' social security contributions are tax deductible on personal income taxation.
iii Tax deductibility for employers
Costs derived from the remuneration paid to employees and executives are deductible for the employer for Spanish corporate tax purposes as long as (1) the accounting expense borne by the employer is linked to an activity effectively performed in favour of the employer, (2) if applicable, the approval procedure settled by corporate legislation has been followed, and (3) that formal transfer pricing requirements should be fulfilled.
iv Other special rules: exit tax
The SPIT Law includes an exit tax that subjects to taxation certain unrealised gains on equity and other financial assets as a consequence of the change in the tax residence status of a Spanish taxpayer, provided that the following requirements are met:
a The taxpayer should have maintained his or her tax residence status in Spain for at least 10 of the last 15 tax periods.
b The taxpayer must hold shares whose market value exceeds:
• €4 million; or
• €1 million if the taxpayer has more than 25 per cent of participation in the entity.
When the above conditions are met, the taxpayer must include in his or her PIT taxable base of the last tax residence period in Spain the positive difference between the market value of the shares and their acquisition cost.
In addition, two different regimes can be identified when the change of residence is made to the EU or the EEA or, in other cases, to a different state. In the first scenario the tax levy could be deferred for 10 years if certain conditions are met, including a formal claim from the individual. In contrast, and in the second scenario, the tax would be demanded immediately unless the taxpayer requests a deferment for a period of five years (extendable for an additional five years in cases of work reasons).
v Reporting obligations
Tax residents in Spain are obliged to report to the STA, using tax Form 720, their assets, comprising bank accounts, financial assets (i.e., shares, investment funds, etc.) and real estate held outside Spain, if at 31 December of the first year of declaration the valuation of any of these groups of assets exceeds €50,000. In subsequent years, there would only be an obligation to submit Form 720 when there is an increase of €20,000 in the valuation of the different groups of assets or the cancellation of an asset previously reported.
This form has to be filed before the end of March every year (in respect of assets held on 31 December in the previous year).
III OTHER TAX CONSIDERATIONS
Spanish tax legislation provides specific rules regarding the taxation of the remuneration of employees and executives who are tax residents in Spain.
i Exemption for services rendered abroad
Executives with a labour relationship can benefit from an exemption on salary income received for work physically performed abroad, up to €60,100, as long as the recipient of the work performed abroad is a non-resident company in Spain or a permanent establishment located abroad, and the country where the work is performed has an identical or analogous tax to personal income tax and is not considered a tax haven.
The exemption is applicable on the proportional part of the salary corresponding to work days abroad and the specific remuneration received in relation to the services rendered abroad.
ii Expatriation bonus allowance
Executives assigned abroad6 under a labour contract may apply tax exemption on the excess of the total compensation that they would have received if they were working in Spain.
The expatriation bonus allowance and the exemption for services rendered abroad are not compatible; consequently, the executive may opt for applying one of them exclusively.
iii Per diems and assignment expenses exempt from taxation
There is an exemption on per diems and assignment expenses when the individual travels to a municipality other than the habitual workplace and residence of the taxpayer for a period of less than nine consecutive months.
The amounts exempt from taxation vary depending whether the municipality is in Spain or abroad and if the travel requires an overnight stay or not.
iv Special Inbound Tax Regime (Impatriate Regime)
The SPIT Law establishes a special tax regime for employees and directors who acquire the tax resident status as a consequence of an assignment to Spain, or to the appointment as a member of the board of directors with no relevant participation in the company. Under this regime, individuals can be taxed according to the NRIT Law even if they are considered tax residents in Spain, provided that the following requirements are met:
a the individual must not have had a tax resident status in Spain for the last 10 tax years prior to his or her transfer to Spain;
b the transfer to Spain must be made under an employment contract (an assignment letter is also valid) or by getting a position as a member of the board of directors of a Spanish company; and
c the income obtained in Spain should not be considered as being obtained through a permanent establishment.
The Impatriate Regime applies during the tax period in which the taxpayer acquires his or her tax resident status in Spain (i.e., the first calendar year following the transfer in which the taxpayer stays in Spain for more than 183 days) and the following five years.
The benefit of this regime is essentially that all the employment income obtained during each calendar year of application of the special regime will be taxed at the following flat rates: 24 per cent up to €600,000 and 45 per cent for the excess over €600,000. Employment income obtained before the transfer to Spain and after the date of departure from the Spanish territory will not be taxed under the Impatriate Regime.
In accordance with the current regulations, in order to apply for this regime it is necessary to fulfil certain compliance procedures in Spain within a period of six months after the date of registration of the employee or the director with the Spanish Social Security Administration or the date of maintaining social security contributions in the home country.
v Pension commitments schemes
Contributions or allocations paid by employers for pension commitments in the terms established by the First Additional Provision of the revised text of the Pension Plans and Funds Regulation Act,7 and in its developing regulations, have a special tax treatment when allocated to persons to which the benefits are linked.
The tax allocation of said contributions to employees is voluntary, but the decision adopted must be maintained until expiry of the insurance contract. Nevertheless, when both saving and risk contingencies are assured (as happens, for example, regarding retirement and death) the tax allocation will be mandatory for risk assurance if the premium exceeds €50.
Notwithstanding the aforementioned, in any case, the tax allocation of insurance premiums shall be mandatory for an amount that exceeds €100,000 per year per taxpayer with respect to the same employer when premiums grant the employee irrevocable rights over the pension.
vi Delivery of shares
Under the current SPIT Law, an annual exemption of €12,000 can be applicable to the remuneration in kind derived from the delivery of shares of a company to its employees as a consequence of the participation in the company or other group company, if:
a the offer is made to all employees of the company in which the employee renders his or her services;
b the employee does not sell the shares during the three years following the date on which he or she acquires them; and
c the employee, together with his or her spouse and their relatives to the second degree, does not have a direct or indirect interest of more than 5 per cent in the company or in any other group company.
While the SPIT Law requires that the delivery of shares has to be made to active workers, this exemption should not be applicable to any member of the board of directors.
vii Exemption on severance payments
Under the SPIT Law, indemnities for worker dismissal or severance payments derived from the termination of ordinary employment contracts will be exempt from taxation in the obligatory amount established in the Workers' Statutes8 (WS). The amount exempted is limited to €180,000.
viii Reduction on irregular income
A 30 per cent reduction on employment taxable income can be applicable as long as said employment income has been generated over a period of more than two years and, in the previous five tax years, the individual has not received any other income generated in more than two years during which the reduction has been applied. This reduction can also be applicable to certain types of income that are considered as notoriously irregular even if they have not been generated in more than two years.
The maximum amount that can benefit from the reduction is limited to €300,000.
In order to apply the reduction, the income must always be paid in a lump sum (it must be imputed for tax purposes in a single tax period), except for certain cases of termination of the employment contract when the payment is made in instalments.
IV EMPLOYMENT LAW
i Commercial relationship v. employment relationship
The most commonly accepted view, adhered to by the Supreme Court and referred to as the 'link theory', is that when both a senior executive employment relationship and a relationship as a director of a company exist at the same time, the employment relationship as a senior executive is regarded as being encompassed within the commercial relationship.
According to this theory, the existence or non-existence of an employment relationship depends not on the content of the activity performed (as the functions of members of the board of directors and of companies' senior executives generally coincide) but on the nature of the link and of the position occupied by the person performing the activity. If the link is structural, with the executive being incorporated within the board of directors of the company, the relationship will in all cases be viewed as commercial, not as a labour relationship.
ii Special employment relationship for senior executives
Article 1.2 of the Royal Decree on senior executives' contracts defines 'senior executive' as:
workers who exercise the powers vested in the legal owners of the enterprise and relating to the general objectives thereof, independently and with full responsibility limited only by the direct instructions and criteria of the person or of the higher bodies of governance and management of the entity respectively occupying the position of legal owner(s).
Based on the above, for an employment relationship to be deemed one of senior executive, the following hallmarks must be present:
a Reporting directly to the managing body of the company, without any body or person interposed between the two, so that the senior executive's powers of independence and full responsibility are only limited by the direct instructions and criteria emanating from the managing body of the company, regardless of the form it takes, that is, from a chief executive officer to a collective body.
b Exercise of general powers of the company, inherent in the legal ownership of the company and relating to its general objectives. The exercise of the inherent powers must fall within the scope of the company's fundamental or strategic decisions, regardless of whether or not the executive has been formally empowered, provided that the powers exercised de facto display these hallmarks.
iii Post-contractual non-competition covenant
Non-competition covenants are allowed under Spanish legislation. Article 21.2 of WS establishes that a post-contractual non-competition covenant after termination of an ordinary employment contract cannot be longer than two years and will only be valid if:
a the employer has an effective industrial or commercial interest; and
b there is an adequate compensation for the employee.
A non-competition covenant in senior executives' employment contracts is quite similar to covenants in ordinary contracts, with basically the same requirements. Article 8.3 of RD 1382/1985 enables the parties to sign a post-contractual non-competition covenant, with similar terms to Article 21.2 of the WS for ordinary contracts.
In the event of relationships of a commercial nature, post-contractual non-competition covenants are not subject to the above-mentioned requirements.
iv Severance payments derived from termination of employment
The WS establishes different causes by which an ordinary employment contract can be terminated. The main types of termination as decided by the employer are classified as two types of dismissal: (1) disciplinary dismissal, and (2) objective dismissal (based on economic, organisational, productive or technical grounds, among others).
Spanish employment contracts are entitled to a statutory severance payment, which is due upon termination of the employment relationship.
The WS establish different amounts of severance payment depending on the type of dismissal, according to the following table:
|Type of dismissal||Severance payment in case of fair dismissal||Severance payment in case of unfair dismissal|
33 days per year of service with a limit of 24 monthly payments (there is a specific transitional regime for contracts preceding 12 February 2012).
|Objective||20 days per year of service with a limit of 12 monthly payments. Additionally, 15 days' notice is required.|
In some cases, terminations are deemed null and void when they involve an employee being reinstated and entitled to receive pay from termination to reinstatement date.
In the event of a special employment relationship for senior executives, the RD 1382/1985 establishes the notice period and statutory severance payments in the event that no agreement is specified in the employment contract.
V SECURITIES LAW
The grant of rights to receive shares under share-based incentive plans implemented in Spain are not usually considered a 'public offering of securities' under Spanish Security Law, but a private one, given that they do not offer transferable shares. Consequently, as a general rule, provided that such rights are not transferable, no filing requirements have to be complied with before the Spanish Securities Markets Authority (CNMV) at the time of granting the right to receive shares, as the Spanish rules regarding offers of securities will not apply.
Nevertheless, in general terms, at the time of the delivery of shares, if the shares are transferable, under Spanish regulations, following EU Directives on prospectus and public offerings,9 a prospectus filing requirement with the CNMV may be triggered, unless the offering is addressed, among others, to fewer than 150 natural or legal persons per EU Member State, other than qualified investors.
In addition, according to Spanish regulations and Directive 2003/71/EC, the obligation to publish a prospectus shall not apply to a public offering of securities addressed to existing or former directors or employees by their employer or by a company of its group that has securities already listed on a regulated market, provided that a document is made available containing information on the number and nature of the securities and the reasons for and details of the offer.
Furthermore, in particular for non-EU companies, additional regimes may apply based on the nature of the offeror and on the terms and conditions of the offering.
The acquisition, maintenance and sale of listed shares held abroad by Spanish residents shall be subject to reporting obligations with the Ministry of Economy and Competitiveness, unless the shares are deposited in a securities account kept with a Spanish investment firm or a Spanish financial entity. In this case, the Spanish depositary entity would automatically carry out the above-mentioned reporting obligations. In addition, in this event, ongoing reporting requirements with the Bank of Spain may be triggered.
VI CORPORATE GOVERNANCE
i Spanish Corporation Law
Articles 217 to 249.bis of the Spanish Corporation Law10 (SCL) impose obligations in relation to the remuneration granted to directors and executives. In particular:
a Remuneration system of directors in their capacity as such:
• The remuneration system will determine the remuneration concepts to be received by the directors in their capacity as such (i.e., a fixed remuneration, assistance allowances, etc.).
• The maximum amount of the annual remuneration of all directors in their capacity as such shall be approved by the shareholders' meeting of the company.
• Unless the shareholders' meeting determines otherwise, the distribution of the remuneration shall be established by a decision of the board, which shall take into account the functions and responsibilities attributed to each director.
b Compensation based on shares of the company:
• When the remuneration system includes the delivery of shares or stock options, or remuneration referenced to the value of the shares, it shall be expressly provided in the by-laws of the company. The application will require an agreement of the shareholders' meeting of the company, and shall refer to certain aspects.
c Remuneration of executive directors:
• When a member of the board of directors is appointed CEO or is granted with executive functions under another title, it will be necessary to conclude a contract between him or her and the company. This contract must be previously approved by the board of directors with the favourable vote of two-thirds of its members;
• the contract must include all the concepts for which the top executives can obtain remuneration for the performance of executive duties; and
• the contract must be in accordance with the remuneration policy approved by the company shareholders' meeting.
d Remuneration of executives reporting directly to the board of directors:
• In the case of executives reporting directly to the board of directors of the company, their compensation must be established by the board of directors, as it is considered a basic term of their contracts.
ii CNMV Good Governance Code
On 24 February 2015, the CNMV published the new Good Governance Code of Listed Companies, completing the reform of the legal framework of corporate governance in Spain, which pursued the following objectives:
a to ensure the proper functioning of the governing and administrative regulations of Spanish companies;
b to build trust and transparency for shareholders and investors;
c to improve internal control and corporate responsibility; and
d to ensure the correct internal distribution of functions, duties and responsibilities.
The provisions of the new Code are applicable as of 2015, in respect of which companies will render account in the annual good governance reports that they submit before the CNMV from 2016 onwards.
The new Good Governance Code contains 25 principles that serve as a basis for the various recommendations. The main conclusions of the new Code regarding variable remuneration are as follows:
a a relevant component of variable remuneration must be linked to a long-term period;
b equity-based incentives should be an important element of the variable remuneration;
c variable remuneration must be subject to predetermined and measurable performance criteria that factor in the risk assumed to achieve a given outcome;
d the remuneration must promote the long-term sustainability of the company and long-term value creation; and
e incentive schemes must include clawback clauses.
i Remuneration policy of top executives
According to Article 529 septdecies of the SCL, the remuneration policy of directors of a company shall determine the remuneration of the directors in their capacity as such, within the system of remuneration provided in the by-laws of the company, and must necessarily include the maximum amount of annual remuneration to be paid. This provision would only be applicable to listed companies.
The determination of the remuneration of each director in his or her capacity will be the responsibility of the board of directors, which will take into account the functions and responsibilities attributed to each director, membership of board committees and other relevant employees according to objective circumstances.
In addition, pursuant to Article 529 octodecies of the SCL, the remuneration of executive directors included in their contracts must be aligned with the remuneration policy of directors of the company, which shall establish their remuneration package.
ii Annual remuneration report
According to Article 541 of the SCL, the boards of directors of listed companies must prepare and publish an annual remuneration report of directors (ARR), including the remuneration received in their capacity as directors and for their executives' functions.
In this regard, the report must have:
a complete, clear and understandable information regarding the remuneration policy of the top executives that will be applicable in the current year;
b a global summary of the implementation of the remuneration policy of the closed year; and
c details of the remuneration accrued by all concepts by each top executive in the current year.
The ARR will be communicated as a relevant fact by the company. The shareholders' meeting of the company should vote as a separate item of the agenda.
The Ministry of Economy or, with its express authorisation, the CNMV, will determine the content and structure of the ARR, which may contain information, among other matters, on the amount of fixed remuneration components, variable remuneration concepts and the performance criteria, as well as the role of the remuneration committee.
iii Website publication
Pursuant to the SCL, both the remuneration policy and the ARR will be made available on the company's website after the company shareholders' meeting.
VIII SPECIALISED REGULATORY REGIMES
There is a specific regulation for certain sectors that imposes restrictions on the remuneration paid to certain employees and executives of companies operating in those sectors.
Among others, the entities affected by these specific provisions are credit institutions, management companies of collective investment institutions, management companies of closed-end investment companies and insurance companies.
The limitations will mainly affect (1) the determination and form of payment of the variable remuneration approved (i.e., clauses malus and clawback), (2) the design and payment of social security insurance, and (3) the limits and form of reimbursement of severance payments.
1 Eduardo Gómez de Salazar is a partner and Ana Ortiz García is a senior associate at J&A Garrigues, SLP.
2 Law 35/2006, of 28 November, on Personal Income Tax and partially amending the Spanish Corporation Tax, Non-Resident Income Tax and Wealth Tax Laws.
3 Final taxation depends on the rates approved by the Autonomous Region where the taxpayer has his or her tax residence. For instance, in Madrid the marginal tax rate is 43.5 per cent for tax year 2018.
4 Legislative Royal Decree 5/2004, of 5 March, which approved the Amended Text of Non-Resident Income Tax Law.
5 Social Security base in force as from 1 August 2018 approved by the Spanish General Budget Law for 2018.
6 According to the criteria of the Spanish General Directorate of Taxes, this exemption is applicable when the assignment is longer than nine consecutive months.
7 Spanish Royal Legislative Decree 1/2002, of 29 November, which approved the text of the Law of Regulation of Pension Plans and Funds.
8 Royal Legislative Decree 2/2015, of 23 October, which approved the consolidated text of the Workers' Statute Law.
9 Regulation (EU) 2017/1129 of the European Parliament and of the Council of 14 June 2017, on the prospectus to be published when securities are offered to the public or admitted to trading on a regulated market, and repealing Directive 2003/71/EC.
10 Legislative Royal Decree 1/2010, of 2 July, which approved the revised text of the Spanish Corporation Law.