A brush with the harsh Black Money law can sometimes be an unwanted consequence of employee stock ownership plan (ESOP) offered by overseas companies.
A number of resident individuals working in Indian subsidiaries and arms of offshore parents have recently received notices from the Income Tax (I-T) department which has pointed out amounts that either went undisclosed or untaxed or both.
The tax office has questioned the gaps that are showing up between the numbers reported by the employees in their annual I-T return (ITR) and the information received by the revenue department on the back of laws like the Foreign Account Tax Compliance Act (FATCA) and other information sharing pacts.
For instance, few have received notices for failing to report dividends that were reinvested. Here, the dividends amounts were not credited to the employees’ bank accounts, but deployed to buy more shares. However, the accrued dividend — which is liable to be taxed in India — and the additional shares were not reported by the employees in ITRs.
“The intention here is not to evade tax. The source is disclosed. Some tax on the dividend has already been deducted abroad and the differential is to be paid in India. Since taxpayers would be eligible for foreign tax credit, in most of such cases, there would not be a motive to evade taxes in India. Instead of the Black Money law, such cases should be initiated under the reassessment procedure outlined in the Income Tax Act, 1961,” said Pankaj Bhuta, founder of the Mumbai-based chartered accountant firm P.R.Bhuta & Co.
The Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act (BMA) that came into force on April 1, 2016, carries a penalty of Rs 10 lakh for non-disclosure. It was brought in to tax money stashed abroad by wealthy Indians.
Employees receiving ESOPs from foreign companies many times assume that since foreign tax has been deducted on receipt of dividend income, there is no need to report it again in India.
Notices under BMA can be triggered in a situation where a portion of the ESOPs is used to settle tax liabilities. Sachin Kumar BP, chief strategic partner at Manohar Chowdhry & Associates — a Chennai-headquartered firm offering services like tax consultancy, audit, and compliance — refers to one such case where the employee in question was supposed to receive a specific number of ESOPs from its foreign parent company but later acknowledged a lesser number, as the difference was appropriated to fulfil tax obligations.
“The individual’s failure to accurately disclose the correct number of ESOPs in the ITR has drawn attention of the authorities, as a lower number of ESOPs post tax adjustment was disclosed. Moreover, there is a query around the potential capital gains on the ESOPs that were purportedly used to settle tax liability,” said Sachin Kumar.
For the authorities these ESOPs may have been effectively treated as ‘sold’ to cover the tax obligations. “This case serves as a stark reminder of the complexities and risks involved in handling ESOPs, emphasizing the necessity of thorough disclosure,” he said.
According to a plain reading of the law, ESOPs allotted by foreign parent companies to Indian employees are considered “foreign assets” and should be disclosed in the “Schedule FA” of the I-T return (ITR). Failure to disclose these ESOPs would result in implications under the Black Money Act — fust as failure to report a Swiss bank account or a property in London.
NEED FOR CLEARER RULES
However, sometimes a lack of clarity results in incorrect reporting. Referring to the issue on unreported accrued dividend on shares received post exercise of ESOPs, Mohit Bang, partner at the Hyderabad-based CA firm Trivedi & Bang said that while some overseas custodians (or brokers) clearly identify the dividend credit and subsequent reinvestment debit in their account statements, others do not provide details of the dividend credited but only state the net shares reinvested. “But, it’s the responsibility of employees to appropriately disclose transactions in their tax returns regardless of the statement’s nature. Dividends being reinvested are taxable in India on an accrual basis and should be declared for taxation in the assessment year in which they were accrued, regardless of reinvestment,” said Bang.
In ‘sale to cover’ transactions, employees cover the tax liability arising from exercising stock options. In these transactions, a portion of the vested shares are sold within a week to withhold the taxes owed on the option exercise.
However, reporting these transactions for capital gains or losses can be challenging. Due to limited information provided by brokers, sometimes employees may not have all the necessary details.
“For instance, the schedule requires reporting the ‘peak balance’ of investments, but it’s unclear whether this should be based on market value or cost price. Given the prevalence of foreign stock option issuance, tax authorities should roll out clear and detailed guidelines for the proper disclosure of these assets, liabilities, and the associated income,” said Bang.
Highlights
- ESOPS from foreign cos as ‘Foreign Assets’
- These are to be reported in IT returns
- Rs 10 Lakh fine for non-disclosure under Black Money law
- Often unclear, complex rules result in mistakes
