In a recent decision, the special bench of the Mumbai Income-Tax Appellate Tribunal (ITAT) has held that the amount received on redemption of stock appreciation rights (SAR) by an individual is taxable as salary. This is an important ruling, as it distinguishes the benefit arising from Sar vis--vis the benefit arising under an employee stock option plan (ESOP).
The tax payer was an employee of an Indian company, which is part of the group of companies of a foreign multinational. During the assessment year 1998-99, he received a sum on account of redemption of SAR granted to him earlier by the foreign company, under a SAR scheme.
The taxpayer was allotted SAR in respect of a specified number of shares of the foreign company at an agreed price, which normally reflected the market price as on the date of the grant. He could exercise the right to redeem the appreciation of these shares after one year but within a specified time period from the date of the grant.
On redemption of SAR, the grantee was entitled to receive the excess of market price over the agreed grant price. It is pertinent to note that no shares were actually allotted to the tax payer and his benefit was confined to appreciation in value of the underlying shares. An issue arose whether the amount received on redemption of SAR was taxable as salary income.
The taxpayer contended that the amount received on the redemption was not taxable for various reasons, which inter alia include: SAR was allotted by the foreign company and not by his employer, i.e. the Indian company. As there was no employer-employee relationship with the foreign company, the grantor of SAR the amount received on their redemption could not be taxed as income from salaries. Further, even if taxable, SAR could be taxed at the time of its grant. As SAR was granted at the market value of the shares, no benefit accrued to the taxpayer, and hence, no benefit could be taxed.
Tax authorities argument
Tax authorities contended that the grant of SAR to the taxpayer was on account of his employment and any benefit from SAR, whether granted by employer or a foreign company, would be characterised as income from salaries. Further, there was no benefit when SAR was granted to the taxpayer and the benefit crystallised only in the year, in which it was actually redeemed.
The tribunal held that the redemption of SAR is quite different in scope and its application as compared to an employee stock option. It has held that the redemption of SAR is an employment-related benefit, in the nature of deferred wages or bonus/incentive, received as a fruit of employment, and hence taxable as salary. Further, in case of SAR, the exact quantum of benefit or reward is ascertained at the point of time when SAR is redeemed and not when the same is granted.
Currently, the benefit arising under an Esop is taxable as fringe benefit tax (FBT) on the date, on which the options vest with the employee. FBT is payable by the employer at the time of the allotment or transfer of shares to the employee. In case of SAR, as there is no allotment or transfer of shares, the above decision would have direct bearing on the employers and employees in respect of taxability of the benefit arising from SAR.
Vikas Vasal (The author is an executive director of KPMG)