Why FBT on ESOP should not apply to foreign securities?
October, 27th 2007
Does FBT (fringe benefit tax) apply to foreign securities or ESOPs (employee stock options) of companies listed outside India?
Logically, the levy should not, says Mr Mukesh Butani, BMR & Associates, New Delhi. "For a thorough analysis of the recently announced guidelines, it is equally important to interpret the legislative provisions, as enshrined in the Finance Act of 2007," he adds.
FBT levy, as you may know, was extended to ESOP in the Budget of 2007.
What is causing the ambiguity?
The definition of the terms `specified security' and `sweat equity shares'. The wording being wide, the term `specified security' has become a bone of contention. In the legislation, the term specified security is defined to mean the same as under SCRA (the Securities Contract Regulation Act of 1956).
Hence, it is debatable whether you need to consider the definition of the term as under SCRA, or do we assign the meaning in the context of SCRA. For illustration, definition under SCRA could cover foreign contracts executed in foreign security.
Does the FBT law intend to cover securities under SCRA?
I don't think so. We have to look at the rationale of levy of FBT. In a booming economy, accompanied with a vibrant stock market, corporates have figured out a creative way to compensate their employees through the ESOP scheme. It could be ESOP of a listed company or an unlisted company.
Using the horizontal equity argument, a case was made out by the legislative to tax that portion of the gain, which an employee receives or accrues to him as a result of his employment. The basis of charge is the difference in the value of the security (as at the date of exercise) and price paid for such exercise, levy being on the vesting date.
Isn't FBT levy on foreign securities equitable?
No, it isn't. An employee who becomes the legal owner of the security is taxed on sale of the security under capital gains provisions. Since long term capital gains on listed securities is exempt and short term gain is liable to tax at a concessional rate of 10 percent, the FBT levy should logically not apply to foreign securities, on ESOPs of companies listed outside India.
This is particularly relevant since the employee who is entitled to ESOPs of foreign security does not get the same benefit that an employee receiving ESOP of Indian listed or unlisted security.
In summary, besides the fact that the machinery provisions of the legislation fail for the levy of FBT on foreign securities, the levy is not equitable.