Many newly listed internet companies, such as Paytm and Nykaa, have either launched an employee stock ownership plan (ESOP) or already have a plan.
In a recent stock exchange filing, Nykaa said that its board of directors approved a postal ballot for shareholders to vote on its ESOP 2022 plan after its consent. Nykaa believes the initiative would help attract and retain talent in the company.
Many other Indian and foreign companies also provide the ESOP option to deserving employees and offer them stocks at a lower price than the prevailing market rates.
So, if you are someone who received such shares under ESOP or is likely to receive them, it is then crucial for you to understand your income tax liability for such transactions.
ESOP Taxation
In the 2022 budget, the government provided tax relief through deferred tax liability to ESOP holders of eligible startup companies. However, there is no such relief for others.
For Indian Company: ESOP taxation for India-listed companies is divided into two parts.
● When ESOPs Are Exercised–Part of Salary Perquisite
The first part of the taxation law will apply when you accept ESOPs from a company and later buy the shares.
Saurav Sood, a chartered accountant (CA) and practice leader (International tax and transfer pricing) at SW India, a tax and auditing company, explains that when the employee exercises the ESOP option, it is taxable as a perquisite, which is included in the taxable salary to calculate the employee’s income.
“Taxes are withheld (TDS) by the employer while treating it (ESOPs) as part of salary (though under the category of perquisites),” said Sood.
● When ESOPs Are Sold–Capital Gains Tax Apply
The second part of the tax law will apply when you sell the ESOP shares and earn a profit.
Here, capital gains tax laws will apply, but the amount will depend on the holding—either short-term capital gains tax or long-term capital gains tax would apply.
Short-term gains mean less than a year, and long-term gains mean more than a year. The holding period starts from the exercise date and ends on the sale date.
“Where such shares are of Indian-listed company and securities transaction tax (STT) is paid on such shares, gains up to Rs 1,00,000 are exempt where they are held as long-term shares, that is, for a period exceeding more than a year from the date of holding such shares in Demat or in a physical format,” said Sood.
For US-Listed Company: If a company is listed in the US but not in India, it will be considered unlisted in India.
Aarti Raote, a partner of Deloitte India, explained that for shares repurchased by a “US-listed company, the Indian ESOP investor would be liable for capital gains tax.”
Furthermore, the tax would be considered long-term if the holding period is more than 24 months, and the tax would be at the rate of 20 per cent plus a surcharge. Alternatively, the gains would be treated as short-term gains if it is less than a year.
Sweta Kochar, Partner, PKC Management Consultancy, a Madhya Pradesh based business management consutancy company, said that in case an individuals is working from India for a foreign company (having a permanent establishment in India) and receives income in India, then the taxability of ESOP in the hands of the employees arises at two stages.
"The first trigger of ESOP taxation will be in the hands of the resident employee at the event of exercising ESOP on the difference between fair market value (FMV) of the shares allotted and the exercise price of the shares under ESOP. The second trigger will be at the time of sale, the gains are considered capital gains and are taxed in India on the difference between the sale consideration and the fair market value of the share," Kochar further added.
"The taxability depends on the residential status of the employee. If an employee is a non-resident or resident but not ordinarily resident and have exercised their ESOP options or sold their shares, then in that case they may have to pay tax outside of India," added Kochar.
Sood said the investor could either file the ITR form 2 or 3 when he sells the foreign shares and must repatriate the proceeds of the sale to India within 90 days.
Archit Gupta, the chief executive officer (CEO) of Clear (formerly ClearTax), a fintech SaaS company that offers ITR filing assistance explains that the Income tax act differentiates between the tax treatment of listed and unlisted shares. “The tax treatment for shares unlisted in India or listed out of India remains the same.”
“Indexation benefits for long-term capital gains tax will be allowed. This will increase the asset’s cost to give the effect of inflation,” added Gupta.
