The Chartered Accountant

y misrepresenting their earnings. Insurance companies
have shied away from compensating companies as well as
their executives in all cases of option backdating. In fact,
the backdating scandal has yielded nothing but collective
capitalization loss of over $5.1 billion (some put the figure
at $8 billion). According to Glass Lewis, a shareholder
consultancy firm from San Francisco, the companies that
form a part of the scandal, seemed to have incurred penalization
of over $10.3 billion including compensation
expenditures.
The Indian Scene
Stock options were common in the Indian Software Industry
till the entire industrial sector, including the software
industry, received a jolt from Fringe Benefit Tax
(FBT). The FBT has apparently brought an uneventful
taxation. It is a dogmatic approach to levy FBT if a corporate
employer provides some perks to his employee and
does away with the same if a HUF in business, irrespective
of its scale of operations or government/political party,
awards the same to its employees. In fact, all these employers
are collectively contributing to spiraling inflation
in the form of increasing employees’ spending/purchasing
power. Untimely elections are no less responsible for
fueling inflation just like global oil price hike. Sec 49(2AA)
of the Income-tax Act deals with taxing Capital Gains.
Year of granting the option and year of opting to avail
the option have also become important. If the employee
exercised the option during 1999-2000, then the perquisite
(FMV of the stock at the time of availing the option
less acquisition cost incurred at the time of allotment by
the employee) is chargeable to tax. Subsequently, no perquisite
was assumed in respect of allotment of shares/securities
even if employer made it available at concessional
rate or with no charges. But, from the Assessment Year
2008-09 onwards, the cost of acquisition at the time of
transfer of specified security or sweat equity shall be the
fair market value (FMV) which is taken into consideration
for computing the value of fringe benefits in the hands
of the employer.
On transfer of such shares by the employee, capital gains
would be taxable in the year in which shares/securities
are transferred and the cost of acquisition is taken as the
amount actually paid by the employees at the time of allotment/availing
the option. Even if the employee gifts
away the securities, there will be Capital Gains that arise in
the year of gift and difference in FMV and cost of acquisition
by the employee is the taxable gain.
The benefit should flow from employer to his employee in
order that employer will be held for FBT at 30%+SC+EC.
In this category, among other things, fall specified security/
sweat equity shares allotted or transferred directly or indirectly
by the employer free of cost or at concessional rate
to his present or former employee. FMV minus amount
paid to acquire options thus will be liable to attract the FBT.
Thus, for fear of having to shoulder additional burden of
30%+SC+EC, the employer had applied brakes for pass-
DECEMBER 2008 1028 THE CHARTERED ACCOUNTANT
BANKING AND FINANCE
ing on options to employees from 1/4/2007. This peculiar
legal position has prompted some companies to enact the
above ‘corporate lie,’- that is, backdating, in India too. But
this needs verification by the Auditors/SEBI before one
can comment on the happenings. Since Sarbanes Oxley Act
is not applicable to Indian corporations operating only in
India, the possibility of occurrence of backdating among
them will be more than in the case of foreign companies
operating in India and having employees in India (to whom
the foreign company granted/proposes options), which are
exposed to Sarbanes. But what about the FBT position if
such foreign company grants options to its Indian employees
in its foreign shares (holding company) instead of from
its Indian subsidiary? Can the Holding company be considered
as employer in such cases? Obviously not. Hence, FBT
cannot be levied in such cases. But the twist here is that the
grantor should not be the employer. If the grantor is employer,
it becomes immaterial in which company he grants
the options. Thus, for example, if an employer company
grants options in shares held by it as investment belonging
to another company, such options will attract FBT.
It may be noted in this context that Circular No.8/2005/29-
8-05 clarifies that if an Indian Company carries on business
outside India but does not have any employees based
in India, it would not be liable to the FBT in India. In
such cases stock options to such employees will not be
affected by FBT. It is also clarified in Question no. 22 of
circular that FBT will apply to foreign companies only if it
has employees based in India. FBT will apply, however, to
liaison offices of foreign companies in India, if such offices
have employees based in India. It must be noted here
that exemptions, if any, under Double Taxation Agreements,
are only in respect of incomes of the entity and
will not be relevant for computing FBT. But Question No
31 of the Circular clarifies that a foreign company having
employees based in India, and as per the Article relating to
dependent personal services in any treaty, remuneration
received by all its employees is not taxable in India. Thus,
such foreign companies are not affected by FBT in India.
In the Indian context backdating has no special treatment.
To keep the FBT to the minimum is in the interest of
employers. So they rarely permit any act that increases
their FBT load and at the same time they co-operate with
employees in choosing ‘dating with options,’ which reduces
FBT to the minimum. Thus, while granting Stock
Options, even employers might act/induce the market in
such a manner that the stock market prices of their shares
are kept at favourable levels.
The Chartered Accountants need to watch out ‘options
backdating’ and ‘options forward dating’ incidents among
their corporate clients in India and help reduce uncalled
for litigation from this exercise and submit revised returns
where ever such exercises have occurred . They need to
study SEBI/ Company Law regulations too in respect of
stock option backdating/forward dating and advise all the
concerned parties accordingly.q