The perquisite is taxed in the year the securities are allotted, and it is measured by the fair market value on the date the option was exercised less what the employee paid. The fair market value on the date of allotment is not relevant. An eligible start-up may defer the deduction under s.192(1C) and pay within fourteen days of the earliest of three events. Where the option is never exercised, the charge under s.17(2)(vi) does not arise - though the High Courts have split on what to do with money paid to an option holder in that situation.
The mechanism first. Where an employer offers securities to an employee under an employee stock option plan free of cost or at a concessional rate, the department's own note states that it 'is taxable as a perquisite in the year in which the securities have been allotted to the employee'. The measure of the perquisite is 'the difference between the Fair Market Value (FMV) of the securities on the date of exercising of option and the amount paid by the employee for such securities'. The department adds the point practitioners most often get wrong: 'The FMV of the securities on the date of allotment is not relevant for the calculation of perquisite value. Instead, the FMV of securities at the time of exercising of option is considered.' Rule 3 supplies the method of arriving at fair market value, with different routes for listed shares depending on trading and for unquoted shares.
So three dates matter and they do different work. Grant creates nothing taxable. Exercise fixes the value. Allotment fixes the year. When the employee later sells the shares, the perquisite value already taxed becomes the cost of acquisition for the capital gains computation, and the holding period runs from allotment.
Section 192(1C) is the start-up relief. An eligible start-up - one referred to in s.80-IAC - deducts the tax on the ESOP perquisite within fourteen days of the earliest of three events: the expiry of forty-eight months from the end of the assessment year in which the securities were allotted, the date the employee ceases to be an employee, or the date he sells the securities. It is a deferral of the deduction and payment, not an exemption, and it is available only to a start-up that satisfies s.80-IAC. For everyone else the tax rides on the salary of the month of allotment, which is why employees are asked to fund the withholding at exercise.
The contested ground is what happens when the option is never exercised. The same Flipkart plan produced three High Court decisions on the one-time payment made to option holders after the PhonePe disinvestment. In Sanjay Baweja v. Dy. CIT the Delhi High Court held the payment was not a perquisite under s.17(2)(vi) because the options were never exercised. In Nishithkumar Mukeshkumar Mehta v. Dy. CIT the Madras High Court held the whole receipt was a perquisite taxable as salary, because the employee had paid nothing for the options and kept all of them after being compensated. In Manjeet Singh Chawla v. Dy. CIT (TDS) the Karnataka High Court held the payment was a capital receipt not chargeable under any head. All three were s.197 proceedings, so each decides what the payer had to withhold rather than an assessment.
A fourth decision deals with the option being bought back rather than compensated. In Pramod Kumar Jain v. DCIT the Bangalore Tribunal held that consideration for the repurchase of vested but unexercised options is capital gains, not salary: a vested option is a right to subscribe, which is a capital asset under s.2(14), and its repurchase is a transfer under s.2(47).
On cross-border facts the year of exercise does not decide where the income arose. In V. S. Unnikrishnan v. ITO (2021) 86 ITR 11 (SN) / 198 DTR 73 / 209 TTJ 681 (Mum)(Trib.) the Tribunal held that ESOP benefits granted while the assessee was resident and in consideration of services rendered in India remained taxable even though he was a non-resident in the year of exercise, and that Article 15 of the India-UAE treaty did not protect them.
The employer is the one exposed. It has to value the perquisite on the exercise date, report it in Form No. 12BA, and deduct under s.192 in the month of allotment; if it withholds on a payment that the High Court binding the employee says is not a perquisite, the employee is left claiming a refund, and if it does not withhold on one that is, the employer is an assessee in default. The three-way split on unexercised options means the answer currently depends on where the employee is assessed.
I hold a Mauritius TRC. Can the department still deny me treaty relief on the capital gains?
The TDS officer says I under-deducted under s.192. If my estimate was made honestly, does that answer the demand, the interest and the penalty?
My employees exercised stock options but the shares are locked in and non-transferable. Was I supposed to deduct tax on the market value less what they paid?
As an employer, must I collect bills and tickets from employees before treating leave travel concession or conveyance allowance as exempt while deducting tax under section 192?
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I am paying a foreign supplier for equipment and its erection. Most of the payment is cost, not profit. Must I deduct tax at source under section 195 at all?
I am paying a foreign supplier for equipment and for erecting it, and only part of that is really his income - must I deduct tax under section 195 on the whole payment?
My client is a bank officer taxed on a deemed concession in rent for the bank's quarters even though the market rent is lower than the percentage of salary applied. Is the deeming provision open to challenge?
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