ESOP taxation with examples

Let’s take some more examples to understand ESOPs from the foreign income perspective:

Example 1:
Niyati, an NRI, works from the US in a recognized startup, Hopfin is an unlisted company based out of India. Hopfin announces ESOP for all the current employees on 1 May 2016. The vesting period is 3 years. Niyati decides to exercise her option and buy the shares of Hopfin. Under this scheme, she receives 3000 shares at ₹50/share. What is the tax implication if:

1. The FMV of the shares as of the exercise date (1 May 2019) is ₹110.
2. She sold the shares at FMV of ₹150 on 29 May 2022

Hopfin is an unlisted Indian company. Niyati, being an NRI and working for an Indian company, the income is accrued in India; hence, the tax is payable in India.

  1. When she exercises the option to buy the shares, she pays the discounted price. The company pays the difference amount which is treated as a perquisite under Income from Salary and is taxed at a slab rate.

In this case, the FMV on the exercise date (1 May 2019) = ₹110 * 3000 shares = ₹3,30,000

The exercise price = ₹50 * 3000 shares = ₹1,50,000

As per the law, the difference between the FMV on the exercise date & the exercise price (₹1,80,000) is taxed as a perquisite under Income from Salary. The employer will deduct TDS from the gross salary, which is also visible in form 16.

b. When the shares are sold, the Capital Gain/Loss can be short-term or long-term (>24 months) depending upon the period of holding. As per the law, LTCG from an unlisted company is taxed at a flat rate of 20%.

(1) The FMV on the sell date (29 May 2022) is = ₹150 * 3000 shares = ₹4,50,000

The Purchase Price (1 May 2019) = ₹110 * 3000 shares = ₹3,30,000

So, the index cost of acquisition, ie, Purchase Price * CII 2022/CII 2019

= 3,30,000*331/289 = ₹3,77,959

As per the law, the difference between the FMV on the sell date & the indexed cost of acquisition (₹72, 041) is taxable as a capital gain under the Income from the Capital Gains head.

Considering this is the only income for Niyati, the LTCG of ₹14,408 (72,014*20%) exceeds the limit of ₹10,000, and hence advance tax liability also arises for her.

Example 2:
Mahesh is an Indian resident working as a salaried individual in Mumbai. He gets ESOPs in the form of the company’s shares listed on the US stock exchange. On 1st April 2022, his ESOP of 1000 shares got vested and he exercised the same at a price of Rs 100 per share. What are the tax implications if:

1. The FMV was ₹300 per share on the exercise date.
2. He sold these shares in the US stock market at an FMV of ₹350 per share on 17 July 2022. Tax withheld on CG in the US is ₹12,500.

Note: There is a DTAA (Double Taxation Avoidance Agreement) between India & US.

On exercising the stock option Mahesh would have paid ₹100 per share to acquire 1000 shares. The differential amount between the market value (₹300) and the exercise price (₹100) would be paid by the employer and hence taxed as perquisite under Income from Salary at slab rates.

There is a foreign capital gain when the US shares are sold or transferred. Capital Gains can be short-term or long-term (>24 months) depending upon the period of holding. Since he has sold these shares within 4 months this would be treated as Short Term capital gain and taxed at slab rates.

The tax liability arising in India on the sale of shares:

Sales value: 3,50,000

Less: Purchase value: 3,00,000

STCG: 50,000

Tax: 15,600 (assuming he is falling under the 30% slab)

Mr. Mahesh has paid taxes on capital gains in foreign country as well. Since there is DTAA between India & USA he can claim tax relief under section 90 of the Income Tax act by filing Form 67.

The average rate of tax in Foreign Country: 25% (12500/50000)
The average rate of tax in India: 31.2% (15600/50000)
whichever is lower, ie, 25%

Relief u/s 90/ 90A: 50000*25% = 12500
Tax to be paid in India on capital gains= 3100 (tax payable in India 15600- Tax relief claimed 12500)