How to tax options and non-refundable deposits

The issue

There seems to be quite a bit of confusion around the taxation of options fees and how they relate to the taxation of a subsequent exercise. There are two main types of option, known as put options and call options. Put options are granted to a potential seller to give them the right to sell an asset for a particular price and call options are granted to a potential purchaser to give them the right to buy an asset at a particular price. Invariably there will be fees payable to the grantor of an option and taxation questions therefore arise.

Options which are not exercised

The position here is simple. The proceeds that are received are deemed to be in respect of the disposal of an asset and so are subject to capital gains tax. The only costs that are allowable here are any legal costs associated with the grant of the option.

Options which go on to be exercised

If options go on to be exercised then the actual option proceeds no longer trigger a capital gains transaction (which is retrospectively cancelled) but form part of the overall disposal of the asset. Therefore, a party who has granted a call option will treat any option fee (less costs associated with issuing it) along with proceeds received for the asset (less deal costs) as consideration for the disposal. Conversely, if a buyer has granted a put option to a seller any option fee will be treated as decreasing the consideration for the deal (the buyer will have to pay something but anything he received previously for the option will offset this).

Tricky questions

The difficulty comes when tax becomes due for an unexercised option fee and then that option is later exercised. In these circumstances the option fee and other proceeds still need to be combined in the disposal calculation (as above) but the taxation point of the original option is effectively cancelled. The practical approach here is to write to HMRC to get the previous tax payment allotted to the later period, although it may make more sense to simply ask HMRC for a refund because by definition the ‘new tax liability’ will have been deferred by a year.

Example

On 20 March 2025 Simeon granted Jack a call option to buy his property for £5m at any time up to 19 March 2028. The option fee here is £0.5m (and let’s assume no cost of grant etc). 31 January 2026 rolls around and Jack has not exercised his option. Therefore, Simeon needs to pay tax on a £500,000 gain (assume he pays £120,000 at 24%). On 10 May 2026 Jack exercises his option and pays Simeon £5m for the property. Simeon now needs to ask HMRC to repay the £120,000 as a ‘free standing tax credit’ and he should also get some repayment supplement from 31 January 2026. Perhaps he can then sit on this money until 31 January 2028 when he can put it towards the overall liability. That liability will be determined by deducting the acquisition cost of the property from £5.5m (proceeds and the option fee) and applying the applicable rate of capital gains tax to the resulting gain.

WSM’s view

The above example could equally apply to the taxation of a non-refundable deposit. The take-home message seems to be not to forget to reclaim any tax that you may have paid on an exercise fee when exercise takes place. Tax on the combined transaction may only be payable many months after the liability for the option was triggered. Some people may be tempted to take a punt that the option will be exercised and therefore not pay tax at all on the option fee. This is a dangerous game to play because until the option is exercised HMRC could chase such taxpayers (or non-taxpayers!) for interest and penalties. Generally, we would advise making the payment and being ready to reclaim it promptly should the option be exercised.