All you need to know about Employee Stock Option Plan (ESOP)

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At a growing stage of the Companies, Employee Stock Option Plan (ESOP) plays a vital role to attract and preserve valued employees for long term altitudes. If a company proposes to increase its subscribed capital by issuance of shares, such shares issued will be offered to Employee’s under the ESOP scheme, through a resolution passed by Company. For Public Limited Company, Private Company, Listed and Unlisted Companies Process for Issue of Shares through ESOP are prescribed, for the benefit of Employees as well as Company. In this article the process followed for the Issue of Shares through ESOP will be discussed.

Page  Contents:

  1. What is Employee Stock Option Plan (ESOP)?
  2. ESOP: A Tool to Hold on the Employees
  3. Advantages of ESOP
  4. What is the Eligibility Criterion for the Issue of Shares through ESOP?
  5. Process for ESOP
  6. Taxation of ESOP in India
  7. Conclusion

What is Employee Stock Option Plan (ESOP)?

Employee Stock Option Plan (ESOP) simply means a plan where the company grants options to their employees.

While giving ESOP’s option, the selling shareholder and participants obtain numerous tax benefits. It not only keeps worthy employees inspired which helps to grow your company, rather than just accomplish their obligations, it guarantees that you don’t lose them for a number of years.

Applicability

It shall apply to any company whose shares are listed on any stock exchange in India.

All you need to know about Employee Stock Option Plan (ESOP)

ESOP: A Tool to Hold on the Employees

  • Employee Stock Option Plan (ESOP) is a scheme which benefits both the employee and employer. The employer is able to retain its employees and an employee is benefited in the sense that they receive the right to purchase a certain number of shares in the company at a predetermined price.
  • Under ESOP as a reward for the performance of the employee and as a token of encouragement to them certain shares are allotted at a rate considerably lesser than the prevailing market rate. Through the issuance of ESOP, the interest of employees is matched with that of the shareholders. The managerial skill plays a vital role, the strategy behind such issuance of shares is that the employees who are also the shareholders, will work more in favor of the company and work for better company performance and growth which will ultimately increase the value of their shares.
  • ESOPs are usually given as a reward for their performance and also as motivation for employees. The main purpose of such a plan is to give its employees is to give shares of the company to its employees at a discounted price with a locking period, before which they can’t exercise their right to sell the shares, this makes the employees wait until the locking period is over and consequently the company in return gets the advantage of retaining the employee for a longer period of time.
  • Nowadays this strategy is used very widely by most of the companies, especially in the startup phase have now started giving Employee Stock Options as this is beneficial to both the employer as well as the employee.

Advantages of ESOP

  • Attract Top Talent: you may not be able to match their current salary, but an offer of shares in your company will be enough to attract the best talent.
  • Build Motivation: The better your business performs, the better your most talented employees will get paid. There’s no better way to motivate them.
  • Keep Them Longer: The employees to whom shares have been allocated are almost certain to complete the two to three years you have defined as vesting period.

What is the Eligibility Criterion for the Issue of Shares through ESOP?

The main aim to grant ESOP to the Employees is to keep them motivated and facilitate them to be part of the development of the Company. There will be Selection Process through which the desired Employees will be selected for the availing the Issue of Shares through ESOP.

The Explanation to Rule 12 (1) of Companies (Share Capital and Debentures) Rules, 2014 states for the eligible employees who can Issue of Shares through ESOP:

  • A permanent employee of the Company who is working in India or outside India
  • A Director of the Company may be whole-time or part-time but not an Independent Director

Process for ESOP

Process for Employee Stock Option Plan:

  • Grant Notice
  • Option plan
  • Allotment and documentation
  • Options agreement
  • Business valuation

Taxation of ESOP in India

  • ESOP is considered under prerequisite and as being part of salary TDS is deducted on it.
    Now on what value the TDS should be deducted? TDS is deducted on the difference between the fair market value of the share and the Exercise price.
  • When ESOP is sold by the employee the profit is treated as a capital And the capital gain tax is charged on it. Charged in the year the shares are sold.Now on what value the Capital gain tax shall apply? The Capital Gain is computed as the difference between the sale price and the price at which it was awarded by the Employer.

Holding period:

  • If the shares are held for less than 12 months – Short Term Capital Gains Tax@ 15% is levied and
  • If the shares are held for more than 12 months- Long-Term Capital Gains Tax is the sale of such ESOP’s is effectively exempt from Tax.

Conclusion

The Companies Act, 2013 permit the allocation of share to the shareholders. The Issue of Shares through ESOP can only be permitted when there is 75% majority of the shareholders are in favour of it. The Issue of Shares through ESOP is for the benefit of employees and development of Company as well. We at Corpbiz provide you help in interpreting the legal provisions of the Companies Act, 2013. Our team of professionals will assist you with the documentation process of the ESOP Schemes. Our professionals will plan ideally and will make sure the successful completion of the process.

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