BackFringe benefit tax on Esops: double whammy for employers
Fringe benefit tax on Esops: double whammy for employers
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The Fringe Benefit Tax (FBT) was introduced in the Finance Act, 2005, and was supposedly intended to levy a tax on the employer in relation to fringe benefits enjoyed by employees, in cases where it was not possible to identify the individual tax base.
The “non-identification" cornerstone would be clear from the finance minister’s speech while introducing the Bill: “I now propose that where the benefits are usually enjoyed collectively by the employees and cannot be attributed to individual employees..."
Looked in the above light, the levy of FBT on several items, including the recent addition of FBT on employee stock options, or Esops, in the 2007 Union Budget, appears to be at variance with the original intent. In any case, the shift of the levy from employee to the employer has resulted in a double whammy for the employer.
First, the employer effectively bears the cost of the Esop and second, the employer will now end up bearing the tax burden also. Interestingly, Section 200 of the Companies Act actually prohibits a tax-free salary to the employees and one wonders how this is reconcilable with FBT on Esops. Additionally, the tax base is also uncertain, as you can see later in this column. FBT on Esops is to be calculated on the “fair market value" of the “specified security or sweat equity shares on the date of which the option vests with the employee, as reduced by the payment by/recovery from the employee". The charge of FBT is on the employer at the rate of 33.99% on the fair market value of the option on the vesting date; however, the payment is deferred to the point of time of exercise by the employee. The differential between the vesting value and the ultimate sale price would be capital gains in the hands of the employee, subject to exemption from long-term capital gains.
Tax on employer
There is now an enabling clause that permits the employer to recover FBT from the employee. However, given the serious shortage of talent, one is sceptical as to the ability of an employer to actually enforce this provision and recover the amount from the employee.
In relation to other items, such as car, telephone and health club facilities, where the tax base has shifted earlier to the employer, the effective cost for the employer has gone up, since it is getting difficult to readjust remuneration for FBT being borne by the employer. One suspects that this would also be the case with FBT on Esops. When the vesting is on two separate dates, the tax is very different and something which the employer has no control over; clearly, this conceptually suffers from the infirmity of tax on an uncertain base.
Foreign company issues
In cases where the options are granted by foreign companies to the employees of Indian subsidiaries, the issue that arises is whether FBT would be payable at all, and if so, whether by the Indian subsidiary or the foreign company. The FBT provisions, as enacted, use the words “any specified security or sweat equity shares allotted or transferred, directly or indirectly by employer…to its employees".
Can it be said that the Indian company is indirectly providing Esops through its holding company abroad, and hence should pay FBT?
In a scenario where the foreign company recharges the Esops cost to the Indian company, the tax department may contend that the Indian company will have to bear the FBT burden. Does it mean that in a scenario where the foreign company issues Esops on its own account and does not recharge the Esops cost from the Indian company, the foreign company will not be liable to pay FBT?
It is quite possible that the foreign company may not have any employees based in India. The foreign company may (justifiably) contend that it has no employer-employee relationship with the employees of the Indian company and hence, no FBT is payable. This issue, if unresolved, may attract protracted litigation.
Expatriates
In relation to expatriates, the earlier position was that the tax would be payable by the employee in India, assuming that the employers Esop plan was a non-qualified plan. However, assuming he was taxable abroad, the Indian tax would be creditable against his home country tax. However, now there would be a double tax, in the sense that the Indian employer would pay FBT on Esops, and if the employee is taxed abroad also, the question of credit will not arise since he has not paid any tax in India and he would be liable to pay the full tax in his home country.
Ketan Dalal is executive director of PricewaterhouseCoopers. Your comments and feedback are welcome at groundrules@livemint.com
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