The tax treatment of Employee Stock Options (ESOPs) and similar incentive schemes like Restricted Stock Units (RSUs), Phantom Stocks, and Stock Appreciation Rights (SARs) has drawn increasing attention from GST Authorities in India. While securities are generally excluded from the scope of GST, complexities arise when these instruments are linked to broader employment agreements involving both domestic and foreign entities. This blog breaks down how the legal framework under the GST Act applies to ESOP-related transactions, highlights the positions taken by authorities, and outlines why careful structuring of such plans is now more critical than ever.
GST Implications on Employee Stock Options
In many corporate structures, ESOPs are granted to employees of Indian subsidiaries while the parent foreign company fulfills the vesting obligations. Authorities argue that since the Indian company commits to the ESOP as part of the employment terms, and the foreign company delivers the shares, it could amount to an import of service.
In the case of other instruments like RSUs, Phantom Stocks, and SARs, GST authorities contend that since no actual shares are transferred, and the benefits are often tied to performance milestones, such payouts are not excluded under the securities exemption and may be treated as services.
This interpretation opens up several potential tax exposures, especially where the compensation structure is shared between Indian subsidiaries and their foreign parents.
Legal Framework
Under the GST Act, the supply of goods and services is taxable unless specifically excluded. Here’s how the law categorises relevant elements:
- Goods: Any movable property
- Services: Any supply that is not goods
- Securities (as per SCRA): Explicitly excluded from both goods and services, and therefore outside GST scope
However, the complexity arises when securities are linked to other obligations, such as fulfilling employment agreements. In these cases, the authorities assess whether the act of fulfilment is itself a separate taxable service.
For instance, if a foreign holding company issues shares to the employee of an Indian subsidiary at a discount, and this issuance is linked to contractual employment terms, GST authorities may interpret the action as the foreign company performing a service on behalf of the Indian entity.
Relevant Provisions under the GST Act
According to Schedule II of the CGST Act, agreeing to:
- Refrain from an act
- Tolerate an act or situation
- Do an act
…is treated as a supply of service.
GST authorities argue that various stock option schemes may fall under this clause. This includes cases where the holding company tolerates or performs actions that benefit the Indian employer’s contractual commitments to the employee.
Exceptions and Clarifications
The GST Act does make it clear that services provided by an employee to an employer during the course of employment are not a supply, and hence not subject to GST.
However, if the vesting process is managed by a third party, or if the benefit does not clearly fall within the purview of employer-employee service (such as being offered outside salary structure), GST authorities may view the transaction differently.
In such cases, ESOP-related benefits could be considered a taxable supply, especially if the arrangement is seen as the holding company acting on behalf of the subsidiary or vice versa.
Implications and Action Points
In light of the above interpretations, companies should take a cautious and proactive approach when designing or reviewing their ESOP and other stock-based incentive schemes.
Here are the key takeaways:
- Review how your ESOPs are structured, especially if they involve a foreign parent or third-party vesting
- Ensure clear documentation of who is responsible for what and whether the plan fits within the legal definition of a non-taxable salary benefit
- Understand that performance-linked stock benefits without actual share allotment may be interpreted as taxable services
- Incorporate protective clauses to safeguard both the company and its employees in case of scrutiny
- Where necessary, consult with GST and legal advisors to vet the scheme’s compliance with both GST and employment law
Conclusion
As the GST authorities increase their scrutiny on employee stock-based incentives, businesses must reassess how these benefits are delivered and documented. While securities themselves are excluded from GST, the structure of the plan and the nature of the obligation can pull a transaction into the GST net.
Companies—especially those operating under parent-subsidiary models or offering performance-based instruments—should act promptly to re-evaluate their schemes. Clear communication, legal vetting, and compliance-focused design are now essential to avoid unintended tax exposure.
