Employee Stock Option Plans (ESOPs) are often presented as a valuable part of an employee's overall pay package. A grant valued at Rs 50,000 may sound straightforward, yet the sum that finally reaches your hands could be far lower, or simply very different from that headline figure.
The tax treatment depends on factors including the exercise price, the shares' fair market value (FMV), the employer and the eventual selling price.
Before calculating the tax, it is important to know what the Rs 50,000 represents.
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In most cases, an ESOP gives an employee the right to buy company shares at a pre-determined price, known as the exercise price.
What Does Rs 50,000 In ESOPs Mean?
An ESOP generally gives an employee the right to buy company shares at a pre-determined exercise price.
For example:
Shares: 100
Exercise price: Rs 500 per share
FMV at exercise: Rs 1,000 per share
The shares are therefore worth Rs 1,00,000, while exercising the options costs Rs 50,000.
The Rs 50,000 difference is generally treated as a salary perquisite and taxed when you exercise the options. Your employer deducts TDS based on your income tax slab.
If you are in the 30% tax bracket:
Rs 50,000 × 30% = Rs 15,000
With 4% cess, the tax comes to Rs 15,600.
What Happens When You Sell?
There is usually a second tax event when you sell the shares. The capital gains calculation depends on factors such as whether the company is listed and how long you held the shares.
The FMV used when you exercised the ESOP generally becomes your cost of acquisition.
Suppose you sell the 100 shares at Rs 1,200 each:
Sale value: Rs 1,20,000
Cost of acquisition: Rs 1,00,000
Capital gain: Rs 20,000
The original Rs 50,000 perquisite is not taxed again as salary when you sell the shares. Instead, the second tax calculation generally applies only to the gain or loss that arises after the ESOPs are exercised.
In this example, the Rs 50,000 difference between the shares' FMV and exercise price is taxable as a salary perquisite. At a 30% tax rate plus 4% cess, the initial tax would be Rs 15,600. This is separate from the Rs 50,000 the employee pays to exercise the options and any capital gains tax that may apply when the shares are sold.
If the shares are later sold for more than their FMV at the time of exercise, only that subsequent gain is generally considered for capital gains tax.
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