Budget 2020: Know the Amendments Made to ESOP Taxation

Startups are playing a significant role in the Indian economy, both in terms of revenues and employment opportunities being generated. However, all startups would be hindered by the limited finance in the initial years. It is for this reason that they use the employee stock option plans (ESOPs) to retain and reward talented employees. 

From a long-term perspective, holding ESOPs will allow employees to be a part of the success of the startup. However, the major drawback for employees was that they were liable to pay taxes when the ESOPs are issued. The previous laws meant that the ESOPs were taxable even when they are not being liquidated. 

The fact that the shares of most startups are not listed, this reduces the chances of employees to trade off their ESOPs for cash. This, in a way, is unfair as the ESOP holders are unable to liquidate their shares and are still liable to pay taxes. Hence, employees were thinking twice to opt for ESOPs.

Also Read: Tax Query: How to report loss on ESOPs in the income tax return?

The Finance Bill has considered the challenges faced both by employees and startups and has sought to offer some relief in the form of deferring the taxation of ESOPs. The Finance Bill has proposed to tax ESOPs issued by the eligible startups on the following events, whichever is earlier:

  • At the end of four years from the date of shares being issued
  • When the employee sells his or her shares
  • When the employee resigns or quits

The employers are tasked with deducting and remitting the tax within 14 days of the event that leads to the taxation of ESOPs. Despite taxation being delayed, the applicable tax rate on ESOPs will be the tax rate prevailing in the year of allotment. This is done to ensure that employees don’t get any advantage or disadvantage due to fluctuations in the tax rates. 

The new amendments to the taxation of ESOPs imply that the employers will have to come up with a process that keeps track of the events mentioned above. They need to make sure that they pay taxes within the specified timeline. If not, they will be non-compliant and might have to pay penalties in the form of interest. 

The amendments made to the ESOPs taxation is well received among the eligible startups. Other startups and unlisted companies are also looking forward to receiving similar benefits.

For any clarifications/feedback on the topic, please contact the writer at vineeth.nc@cleartax.in

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