Circular No 9/2007
F. No. 142/25/2007-TPL
Government of India
Ministry of Finance
Department of Revenue
(Central Board of Direct Taxes)
****
New Delhi, the 20th December, 2007
To
All Chief Commissioners of Income-tax/
Directors General of Income-tax
Sub:- Explanatory circular on Fringe Benefit Tax arising on allotment or
transfer of specified securities or sweat equity shares.
In terms of the provisions of Chapter XII-H of the Income-tax Act
(hereinafter referred to as “Act”), an employer, being a company, is liable to
pay Fringe Benefit Tax (FBT) in respect of the fringe benefits provided or
deemed to have been provided by it to its employees, directly or indirectly,
during the previous year.
With a view to bring grant of stock options by employers to employees
within the purview of FBT, Finance Act, 2007 has inserted a new clause (d) in
sub-section (1) of section 115WB. The salient features of this provision are:-
(i) FBT shall apply in all cases where any specified security or
sweat equity shares has been allotted or transferred by the
employer to his employees;
(ii) FBT shall be payable in the previous year in which such
allotment or transfer has taken place;
(iii) the provisions of this new clause shall apply even if the
allotment or transfer is directly or indirectly;
(iv) the provisions of this new clause shall apply even if the
allotment or transfer is free of cost or at concessional rate;
(v) the provisions of this new clause shall apply even if the
allotment or transfer is to current or former employee or
employees;
(vi) the provisions of this new clause shall apply in cases where the
allotment or transfer is on or after 1st day of April, 2007.
The expressions “specified security” and “sweat equity shares” have
also been defined. The value of fringe benefit is subjected to FBT at the
prevailing rate, which is currently 30% plus surcharge plus education cess.
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2. Method of computation of the value of the fringe benefit
Under the existing provisions contained in section 115WC, the method
of computation of the value of fringe benefits referred to in section 115WB has
been provided. A new clause (ba) in sub-section (1) of the said section
115WC has been inserted to provide for computation of fringe benefit related
to allotment or transfer of specified security or sweat equity shares by
employers to employees.
It has been provided that the value of fringe benefit in such cases shall
be determined in accordance with the formula –
A – B
Where, A = the Fair Market Value (FMV) of the specified security or
sweat equity shares on the date of vesting of the
option; and
B = the amount, if any, actually paid by, or recovered from the
employee;
The expression “fair market value” has been defined to mean the value
determined in accordance with the method as may be prescribed by the
Board.
“Option” has been defined to mean a right but not an obligation
granted to an employee to apply for the specified security or sweat equity
shares at a predetermined price.
The Central Board of Direct Taxes (CBDT) vide notification S.O.
number 1805(E) dated 23rd October, 2007 has inserted Rule 40C in the
income-tax Rules; which has prescribed the method for determination of fair
market value of specified security or sweat equity share, being a share in the
company. Salient features of this rule are:
(i) In a case where, on the date of the vesting of the option, the
share in the company is listed on a recognized stock exchange,
the fair market value shall be the average of the opening price
and closing price of the share on that date on the said stock
exchange;
(ii) If on the date of vesting of the option, the share is listed on more
than one recognized stock exchanges, the fair market value
shall be the average of opening price and closing price of the
share on the recognised stock exchange which records the
highest volume of trading in the share;
(iii) If on the date of vesting of the option, there is no trading in the
share on any recognized stock exchange, the fair market value
shall be,-
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(a) the closing price of the share on any recognised stock
exchange on a date closest to the date of vesting of the
option and immediately preceding such date; or
(b) the closing price of the share on a recognised stock
exchange, which records the highest volume of trading in
such share, if the closing price, as on the date closest to the
date of vesting of the option and immediately preceding such
date, is recorded on more than one recognized stock
exchange.
(iv) In a case where, on the date of vesting of the option, the share
in the company is not listed on a recognized stock exchange,
the fair market value shall be such value of the share in the
company, as determined by a Category 1 Merchant Banker
registered with the Security and Exchange Board of India, on the
specified date.
(v) The specified date has been defined as to mean,-
(i) the date of vesting of the option; or
(ii) any date earlier than the date of the vesting of the option, not
being a date which is more than 180 days earlier than the date
of the vesting.
3. Determination of the cost of acquisition for capital gains purposes
Consequent to insertion of clause (ba) in sub-section (1) of section
115WC providing for the valuation of fringe benefits referred to in clause (d) of
sub-section (1) of section 115WB, a new sub-section (2AB) has been inserted
in section 49.
This new sub-section provide that the cost of acquisition of specified
security or sweat equity shares shall be the fair market value which has been
taken into account while computing the value of fringe benefit under the new
clause (ba) of sub-section (1) of section 115WC.
4. Determination of the period of holding
A new sub-clause (hb) has also been inserted in clause (i) of
Explanation 1 to clause (42A) of section 2. This new sub-clause provide that
the period of holding in case of such specified security or sweat equity shares,
in the hand of the employee, shall be reckoned from the date of allotment or
transfer of such security or shares.
5. Recovery of FBT by the employer from its employee
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A new section 115WK has also been inserted enabling the employer to
recover the fringe benefit tax from the employee in respect of specified
security or sweat equity shares, if such security or shares are transferred or
allotted to the employee on or after 1st April, 2007.
It has been prescribed that the employer can vary the agreement or
scheme under which such specified security or sweat equity shares has been
allotted or transferred. The agreement or scheme can be varied with a
purpose to recover from the employee the fringe benefit tax to the extent to
which such employer is liable to pay the fringe benefit tax in relation to the
allotment or transfer of such specified security or sweat equity shares to such
employee.
6. Illustration
The above amendments are explained with the help of an illustration.
Illustration: A company ‘X’ grants option to its employee ‘R’ on
1st April, 2004 to apply for 100 shares of the company at a predetermined
price of Rs. 50/- per share with date of vesting of the option
being 1st April, 2006 and exercise period being 1st April, 2006 to 31st
March, 2010.
Employee ‘R’ exercises his option on 31st March, 2007 and shares are
allotted/transferred to him on 3rd April, 2007. On 25th October, 2007
these shares are sold for Rs. 200/- each. On the date of vesting of the
option , fair market value of the share was Rs. 80/- per share. The tax
implication of above situation will be as under:-
Since shares are allotted or transferred on or after 1st April,
2007, provision of fringe benefit tax are attracted. Fringe benefit with
respect to employee ‘R’ is (Rs. 80 – Rs. 50) X 100 = Rs. 3,000/-.
Company ‘X’ will pay fringe benefit tax on Rs. 3,000/-.
Cost of acquisition in the hand of employee ‘R’ = Rs. 80/- per share
Capital gain = (Rs.200 – Rs. 80) X 100 = Rs. 12,000/-
Period of holding = 3rd April, 2007 to 25th October, 2007 i.e., less than
12 months. Hence, the amount of RS. 12,000/- will be charged to short
term capital gain.
7. Frequently Asked Questions
A number of issues have been raised by trade and industry at different
fora after the presentation of the Finance Bill, 2007, after its enactment and
also after the notification of Rule 40C. The questions and answers in the
following section seek to clarify these issues:
1. Whether a foreign company is liable to pay FBT on shares
allotted or transferred to the employees of its Indian
subsidiary?
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Answer: In terms of the provisions of Chapter XII-H of the Act, an employer,
being a company, is liable to pay FBT in respect of the fringe
benefits provided or deemed to have been provided by it to its
employees, directly or indirectly, during the previous year. Since
the shares are allotted or transferred to employees of the Indian
subsidiary, by virtue of their employment with the subsidiary
company, the liability to pay fringe benefit tax on such shares vests
upon the Indian subsidiary and not on the foreign company.
2. Whether charge back of costs by the foreign company to the
Indian subsidiary is relevant to determine the obligation of the
Indian company to pay FBT?
Answer: As stated in answer No.1, the Indian subsidiary is liable to fringe
benefit tax irrespective of whether or not there is a charge back of
cost by the foreign holding company.
3. Will FBT apply in case of employees of the Indian subsidiary
for shares awarded by the foreign holding company if the
employees of the Indian subsidiary are allotted or transferred
shares while outside India?
Answer: In the answer to Question No.20 of CBDT Circular No. 8/2005 dt.
29.8.2005, it has been clarified that an employer is liable to fringe
benefit tax on the value of fringe benefits provided or deemed to
have been provided to employees based in India. Therefore, an
Indian subsidiary would be liable to pay FBT in respect of the value
of the shares allotted or transferred by the foreign holding company
if the employee was based in India at any time during the period
beginning with the grant of the option and ending with the date of
vesting of such option (hereafter such period is referred to as ‘grant
period’), irrespective of the place of location of the employee at the
time of allotment or transfer of such shares.
4. How will the value of fringe benefit be determined in case
where the employee was based in India only for a part of the
grant period?
Answer: In a case where the employee was based in India only for a part of
grant period, a proportionate amount of the value of the fringe
benefit will be liable to FBT. The proportionate amount shall be
determined by applying to the value of the fringe benefit, the
proportion which the length of the period of stay in India by the
employee during the grant period bears to the length of the grant
period.
(The value of fringe benefit means the fair market value of the
specified security or sweat equity shares, on the date on which the
option vests with the employee, as reduced by the amount actually
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paid by, or recovered from, the employee in respect of such
shares.)
5. Whether a foreign company is liable to fringe benefit tax in
respect of shares allotted or transferred to an employee who is
deputed to work in India in the year of such allotment or
transfer?
Answer: A foreign company is liable to FBT in respect of shares allotted or
transferred to its employee who is based in India. However, in such
cases only a proportionate amount of the value of the fringe benefit
will be liable to FBT. The proportionate value shall be determined
by applying to the value of the fringe benefit, the proportion which
the length of the period of stay in India by the employee during the
grant period bears to the length of the grant period.
(The value of fringe benefit means the fair market value of the
specified security or sweat equity shares, on the date on which the
option vests with the employee, as reduced by the amount actually
paid by, or recovered from, the employee in respect of such
shares.)
6. What will be the cost of acquisition of shares, referred to in
question nos 4 and 5, where only a proportionate value of
fringe benefit has been subjected to FBT?
Answer:- In accordance with section 49(2AB) of the Act, the cost of
acquisition of such shares shall be the fair market value on the date
on which the option vests with the employee. The calculation of
fringe benefit for the purpose of determining FBT does not change
this value. Hence, the subsequent calculation of reducing such fair
market value by the amount actually paid by or recovered from the
employee as well as the calculation of proportionate value in certain
cases, referred to in Question No.4 & 5 above, will not change the
cost of acquisition.
7. Where the benefit on account of shares allotted or transferred
under Employee Stock Option Plans (ESOPs) is taxed in the
hands of the employees in different countries, would the
employer still be liable to FBT? If yes, can the employer claim
credit for payment of tax by the employee in other countries?
Answer: Employer will be liable to FBT in India irrespective of whether
employees have been charged to tax in different countries or not.
An employer cannot claim any credit in India against its FBT liability
for taxes paid by employees in other countries.
8. Where FBT, on account of shares allotted or transferred under
ESOPs, has been paid by the employer in respect of an
employee based in India and subsequently recovered from
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him, can such employee claim credit in a foreign country for
this FBT paid by the employer in India?
Answer: Ordinarily, the employee is liable to tax in respect of fringe benefits
received by him from his employer. However, the taxation of fringe
benefits in the hands of the employee raises several problems.
Accordingly, it was decided to introduce FBT as a surrogate tax on
employer in respect of the fringe benefits provided or deemed to
have been provided by it to its employees during the previous year.
This being so, in a case where FBT, on account of share allotted or
transferred ESOPs, has been paid by the employer in respect of an
employee based in India and subsequently recovered from him; the
FBT is effectively paid by the employee in respect of fringe benefits
enjoyed by him. Therefore, such employee can claim credit, in a
foreign country, for the FBT, on account of shares allotted or
transferred under ESOPs, paid by the employer in India.
9. Whether the benefits arising on account of shares allotted or
transferred under ESOPs can be taxed as a perquisite under
section 17 of the Act instead of being taxed as fringe benefit
under Chapter XII-H of the said Act, at the option of the
employer?
Answer: Any fringe benefit liable to be taxed in the hands of the employer
under Chapter XII-H of the Act cannot be taxed in the hands of the
employee as a perquisite under section 17 of the said Act.
Therefore, an employer does not have an option to tax the benefit
arising on account of shares allotted or transferred under ESOPs as
perquisite which otherwise is to be taxed as fringe benefit.
10. Whether there will be any FBT liability in a case where the FMV
on the date of vesting is less than the price paid by the
employee to the employer for allotment or transfer of shares?
Answer: No. FBT would not be payable in such cases.
11. What will be the valuation methodology for foreign companies
if the shares are not listed in a recognized stock exchange in
India but are listed on any globally recognised stock
exchange?
Answer: If the shares are not listed in a recognized stock exchange in India,
the shares will be treated as unlisted. Accordingly, such shares will
have to be valued by category 1 Merchant Banker registered with
Securities and Exchange Board of India. However, if the shares are
listed in any globally recognised stock exchange, the merchant
banker shall use the listed price as one of the basis for valuation
and recommend the best value.
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12. Whether an independent valuation carried by any foreign
merchant banker/other experts as recognized for the purposes
of valuation in the foreign country be treated as sufficient
compliance for the purposes of valuation of fringe benefit
arising on account of allotment or transfer of shares under
ESOPs of an unlisted foreign company or is it mandatory that
the merchant banker should be registered with the Securities
and Exchange Board of India.
Answer: For the purposes of valuation of fringe benefit arising on account of
allotment or transfer of shares under ESOPs of an unlisted foreign
company, it is mandatory for the valuer to be a category I Merchant
Banker registered with the Securities and Exchange Board of India.
13. When there exists different methods for valuing FMV for
unlisted companies, which method should be used by the
merchant bankers to determine the FMV?
Answer: The Merchant Banker should determine the FMV on the basis of
alternative methods and recommend the most appropriate value.
14. What is the significance of specified date? Whether the
valuation is to be made on a specified date or specified
security or sweat equity share is to be valued as on the
specified date?
Answer: The process of valuation may be carried out by the merchant
banker at any time before or after the date of vesting of the option,
but the specified security or the sweat equity share is required to be
valued as on the specified date.
15. What is the FMV that a company should adopt if the shares
have been valued by more than one merchant banker or by one
merchant banker on more than one occasion?
Answer: The valuation which value the specified security or sweat equity
share on the specified date, which is closest to the date of the
vesting of the option, should be adopted, if the shares have been
valued by more than one Merchant Banker or by one Merchant
Banker on more than one occasion.
16. Whether the fringe benefit arising on account of shares allotted
or transferred under an ESOP is allowed as deduction in
calculating the taxable income of the employer company?
Answer: In case where the employer purchases the shares and then
subsequently transfers such shares to its employees, the
expenditure so incurred is allowable as deduction in computing the
taxable income of the employer company. However, if the shares
are allotted to the employees from the share capital of the
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company, no deduction is allowable in computing the taxable
income of the company since no expenditure has been incurred by
it.
17. Whether ESOPs issued to non-executive directors or nonemployees
liable to FBT?
Answer: Benefit arising out of ESOPs issued to non-employees will not
be liable to FBT. However, in such cases, the taxability of such
benefits in the hands of the non-employees will be determined in
accordance with the existing law.
18. Which method, first-in-first-out (FIFO) or last-in-first-out (LIFO)
shall be followed in case there are multiple date of vesting for
different number of shares. For example if the dates of vesting
are:
31 Mar 06 - 300 options – FMV Rs. 8 per share ( one share
per option)
31 Mar 07 - 300 options – FMV Rs. 9 per share ( one share
per option) and the employee is allotted 500 shares as on 30
September 2007, how will FBT be calculated?
Answer: In such cases, the First-in-First-Out (FIFO) method shall be
followed. Hence, the FBT shall be calculated with respect to 300
shares at FMV of Rs 8 per share and 200 shares at FMV of Rs 9
per shares.
19. Whether it is binding upon the Assessing Officer to accept the
valuation made by the merchant banker?
Answer: It is binding upon the Assessing Officer to accept the valuation
made by the Merchant Banker unless the valuation by such banker
is perverse.
20. How would the recovery of FBT be treated in the hands of the
employer?
Answer: Since FBT is not an allowable deduction in computation of the
income of the employer, any recovery of FBT will not be treated as
income in his hands.
21. What should be the mechanism and timing of recovery of FBT?
Answer: The law does not provide for any specific mechanism or timing
of recovery of FBT.
22. Is it lawful for the employer to recover FBT with respect to
ESOPs granted prior to April 1, 2007?
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Answer: It would be lawful for the employer to recover FBT with respect
to ESOPs granted prior to April 1, 2007, but allotted or transferred
to the employee after such date.
23. What will be the date of allotment of an Employee Stock
Option?
Answer: The date of allotment of an Employee Stock Option shall be the
date on which the underlying asset is allotted or transferred to the
employee
24. Whether the FBT recovered from the employee would form the
cost basis for employee for calculating Capital Gain on
subsequent sale of shares?
Answer: No. The recovery of FBT from the employee by the employer will
not change the cost of acquisition of the shares in the hand of the
employee.
25. Will Rule 40C of Income-tax Rules, shall also apply in a case
where shares are allotted or transferred to an employee under
“Employee Stock Purchase Plan”, or “Employee Stock Option
Scheme”, or “Employee Stock Ownership Plan”, or “Employee
Stock Purchase Scheme”, or “Employee Stock Option
Scheme” or “Employee Appreciation Rights or Plans”?
Answer: Rule 40C shall apply in all cases where specified security or sweat
equity shares, being shares in a company, are allotted or
transferred to an employee under any scheme or plan or otherwise.
For the purpose of this circular an Employees’ Stock Option Plan
shall include all such schemes or plans, etc.
(Kamlesh C. Varshney)
Director (TPL-II)
Copy to:
1. PS to Finance Minister/MoSF (Revenue)/Finance Secretary/Revenue
Secretary and Adviser to FM.
2. Chairman (DT/ All Members of CBDT.
3. All Joint Secretaries, Commissioners and Directors of CBDT.
4. All Chambers of Commerce/Industry/Trade Associations.
5. Director General, National Academy of Direct Taxes, Nagpur.
6. Directors, Regional Training Institutes,
Ahmedabad/Bangalore/Chandigarh/Chennai/Kolkata/Lucknow/Mumbai
.
7. The Comptroller and Auditor General of India (30 copies).
8. Ministry of Law (10 copies).
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9. Secretary, Settlement Commission, New Delhi.
10. All Officers and Technical Sections in CBDT.
11. All Officers of Income-tax Department through their CCsIT/DsGIT
(Kamlesh C. Varshney)
Director (TPL-II)
Thanks for the information
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