Understanding the taxation of foreign ESOPs in India

Understanding the taxation of foreign ESOPs in India

You don't need to introduce the term ESOP (assuming you read this article and know if you own an ESOP or what an ESOP is). 

However, few people understand the tax implications of employee stock options. The purpose of this article is to briefly explain how the ESOP is taxed from an employee's perspective. 

How is the ESOP taxed in India?

At the time of allotment, the difference between the fair value of the shares (calculated on the exercise date) and the exercise price is taxed as a grant (as part of the salary). The employer deducts the TDS from the value of the benefit calculated in this way. 

This has a negative impact on cash flow as more taxes are deducted from the salary without additional inflows. Note that taxation only occurs on stock allocations, not on option allocations (commonly known as option allocations). Shares are awarded when an employee exercises an option and then pays taxes. 

For example, Mr. X will be granted 10,000 shares of Company A (employer) based on the company's stock option plan. If the market value of the shares on the exercise date is  200 shares per share and the exercise price is  10, the value of Mr. X's taxable shares is (200-10) * 10,000 = 19.00,000 

Assuming Mr. X, a maximum tax rate of 10%, If applicable, the additional charge will be deducted to 19.00,000 at 34.32% (including 4% disposal). This will result in an additional TDS deduction of 6.52.080. 

Employees must sell a few shares or take other precautions to meet this obligation to be paid at vesting. The second instance of capital gains tax occurs. This can be long-term or short-term, depending on the holding period. If you are wondering what the cost of calculating capital gains will be, this is the fair market value on the exercise date (used to calculate the required value). 

Budget Changes  

Startups (which rely heavily on the ESOP to retain their talent) have practical difficulties in taxing the ESOP as a sideline. As explained above, to meet TDS obligations, employees must either sell a portion of their shares or raise funds from their own sources of funding.

Finding a buyer for a startup's stock can be difficult because they are usually unlisted and may not have an active market. After reviewing various expressions and understanding the real difficulties faced by startups, the Income Tax Act was changed to bail out "qualified startups." 

What is a qualified startup? 

Simply put, a qualified startup is either a company or LLP that was established after April 1, 2016, and before April 1, 2022. In addition, you must meet your state requirements (up to 100 colors) and carry out qualified business activities as described. 

What kind of relief is given? 

Certified startups can withdraw TDS within 14 days: 

48 months after the end of each evaluation year or from the day these shares were sold or from the day the employee retired. Therefore, if 21 shares are allocated in fiscal year 202021, the earliest date the employer (as a qualified startup) is obliged to deduct TDS is 14 days. 

This is a good step. Employees have at least five years to tax additional income unless they decide in advance to cancel or sell their shares. This gives employees the option to hold shares and not sell a portion of the shares to meet their tax obligations. 

The unfairness is that dismissals are only given to qualified startup employees—the ratio of eligible startups to the total number of companies that award ESOP is negligible. Well, perhaps the government intends to support startups, not the general white-collar class. 

Taxes and Capital Loss Incurred: 

Taxing the ESOP of the grant year could result in another potential loss in terms of tax if the value of the stock drops significantly after the tax on fair value has been paid. There is X. 

In the above example, if Mr. X chooses to hold shares by paying a tax of 6.52.080 (assuming Company A is not a qualified start-up), it is a number from his personal savings. Within a year, inventory will drop to, for example, 20 (possibly possible), resulting in a capital loss of 18,000,000 (10,000 * (20020)). 

Capital loss cannot be offset against wage income. Therefore, if Mr. X does not have enough capital gains to make up for the loss, he can carry forward the loss for an acceptable period and amortize it. In any case, if these losses are related to the ESOP, it will help offset the capital loss on salary income. 

ESOP issued by a foreign company:

Employees of Indian companies often receive ESOPs from overseas parent companies. This does not change the tax treatment of allocations. It is still taxed as a grant, and the employer (an Indian company) is supposed to deduct the TDS. 

These shares must be declared as foreign assets in the ITR, and ITR 1 cannot be submitted, which increases the compliance burden. 

When selling these shares, the question is whether capital gains are taxed in India or in the taxable foreign countries that hold these shares. The answer depends on your living situation; the resident pays taxes on his world income.

Therefore, if you are a resident, you will have to pay taxes in both countries. However, you may be eligible for relief under a double taxation treaty (if India has such a treaty with a foreign country). 

Disclosure of IT returns 

If an Indian employee is assigned shares in a foreign parent company, he is considered the owner of the foreign assets. He must be disclosed in the Indian tax return filed by such an employee. If a resident Indian owns foreign assets, ITR 1 is not a correct tax return as it applies only to taxpayers who have salary income and no foreign assets.

Submit ITR2 or ITR3 to your tax return based on sources of income other than income earned by Indian taxpayers and include disclosure of foreign company shares Appendix FA-Details of foreign assets and income from any source outside India Must be done in. 

Resident Indians are subject to income tax on world income, so capital gains from the transfer of shares of foreign companies are also taxed in India. Depending on the holding period, this income may be taxed as short-term or long-term capital gains. 

Foreign countries can also tax such profits, and the impact of the tax must be assessed under the local tax laws of the place of residence of the foreign company issuing the shares and related tax treaties (such as double taxation treaties). 

According to Indian Exchange Control Regulations, if an Indian holds shares of a foreign company under the ESOP and transfers those shares to a non-resident outside India, the sales from such a transaction will be 90 from the date of sale. Must be returned to India within a day. Criminal charges may occur if these repatriation deadlines are not met.

In summary, the ESOP plays an important role in designing employee compensation plans. Tax deferral benefits should not be limited to "qualified startups". Even if they aren't as attractive as the remedies offered by "qualified startups," you may need a reduced version of them.

If you are looking for any Employee stock option plan (ESOP) services or consultants in Noida, Delhi, Gurgaon or anywhere in India, write to us at accounts@especia.co.in. Or Call On :(+91)-9711021268 +91-9310165114

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