ITAT: unexercised ESOP buyback gains are capital gains
The Bengaluru bench of the tax tribunal held that money paid when a company repurchases vested but unexercised stock options is taxed as capital gains, not as salary.
- ITAT Bengaluru held that buyback of vested but unexercised ESOPs is taxable as capital gains under Section 45.
- The taxpayer, a senior Flipkart executive, reported Rs 2.45 Cr in LTCG, including Rs 2.33 Cr from the repurchase of 2,653 vested stock options.
- The tax department had sought to tax that Rs 2.33 Cr as a salary perquisite under Section 17(2), at higher slab rates.
- LTCG is generally taxed at 12.5%. The same return reported gross salary of Rs 1.90 Cr.
The Bengaluru bench of the Income Tax Appellate Tribunal has held that money received when a company buys back vested but unexercised stock options is taxable as capital gains, not as salary. The case involved a senior Flipkart executive. Inc42 reports the order came last week.
The taxpayer had reported gross salary of Rs 1.90 Cr and long term capital gains of Rs 2.45 Cr, of which Rs 2.33 Cr came from Flipkart repurchasing 2,653 vested stock options. The tax department wanted that Rs 2.33 Cr reclassified as a salary perquisite under Section 17(2)(vi), which would tax it at slab rates. The tribunal placed it under Section 45 instead, as capital gains. LTCG is generally taxed at 12.5%.
The reasoning matters more than the arithmetic. The tribunal said: “We are of the considered view that till a ‘specified security’ comes into existence upon exercise of the stock option by the employee, no value can be assigned to it. Accordingly, in such a scenario, the question of taxability under the head ‘salaries’ does not arise.” In plain terms, with no exercise there is no share, and with no share there is nothing for the perquisite rules to attach to.
Read it narrowly. This is one bench, on one set of facts, and the department can appeal. It is not settled law and none of this is tax advice. The useful point for a founder is procedural rather than legal. Your ESOP policy decides whether a liquidity event repurchases options or repurchases shares after exercise, and those two mechanics are now landing in different heads of income.
For a D2C brand or marketplace seller running an option pool, the exposure sits in payroll. Most finance teams withhold on buybacks as a perquisite by default, because that is the conservative read. If your next secondary touches unexercised options, the withholding treatment, the employee’s net proceeds and your own cash outflow all shift together. Decide the structure with counsel before the term sheet is signed, not after the money has moved. Employees who were promised a number and receive a different one rarely blame the tax code.
Zane’s analysis draws on original reporting by Inc42. Read the original report.