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ESOP

Taxation in the hands

of employees

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Background on ESOP

ESOP (Employee Stock Ownership Plans ) allows an employee to own equity shares of the employer company over a certain period. ESOPs have recently gained popularity in India especially in the startup space. Since the startups are operating with limited liquidity, at least, in the initial stages, they attract talent with comparatively less payout in cash with an option to purchase the equity shares of the company at a later stage decided based on mutual agreement.

Before we venture into the ESOP taxation, it is pertinent to familiarize ourselves with the specific terminologies used under ESOP.

Key Terminologies in ESOPs

Exercise price is usually lower than the prevailing FMV of the stock. An employer and employee agree on ESOP terms on the grant date. Once the employee has fulfilled the conditions or the relevant time period has elapsed, these employee stock options are vested. At this time the employee can exercise them or put simply – buy them. The employee is allowed some time period during which this option to buy can be exercised. Once the employee decides to buy, these stock options are allotted to him at an exercise price which is usually lower than the FMV of the stock. Of course, the employee can choose not to exercise his option.

Trigger Point for Taxability ESOP Taxation

There are two trigger points for ESOPs to be taxed – 1. At the time of exercise – Taxable as a perquisite under the head ‘salary’ What is taxable? – Difference between the FMV (on the exercise date) and exercise price is taxable as perquisite. The employer deducts TDS on this perquisite. This amount is shown in the employee’s Form 16 and included as part of total income from salary in its ITR. Exception for eligible startups An employee receiving ESOPs from an eligible start-up need not pay tax in the year of exercising the option. The TDS on the ‘perquisite’ stands deferred to earlier of the following events:
  • 5 years from the year of allotment of ESOPs
  • Date of sale of the ESOPs by the employee
  • End of employment with the eligible startup
Eligible startups shall have the same meaning as defined under section 80-IAC of the IT Act.

2. At the time of sale by employee – Taxation as capital gain

What is taxable? – Difference between sale price and FMV (on the exercise date) is taxed as capital gains in the hands of the employee.
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Calculation
of FMV

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About Coinmen


Founded in 2010, Coinmen Consultans LLP is an independent Financial and Business Advisory firm, offering an array of advisory services to support companies, whatever their scale or geography, in their growth trajectory.

Backed by its group companies – Coinmen Consultants LLP, and Coinmen Capital Advisors LLP  – Coinmen has established its presence globally having helped over 100 businesses through projects in varying capacities.

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