ESOPs, tax breaks and some riders, Technology News, ETtech

Illustration: Rahul Awasthi
Illustration: Rahul Awasthi

Finance Minister Nirmala Sitharaman’s proposal to defer taxing employee stock options by five years or until a person leaves a company or sells her shares aimed at helping startups retain talent has cheered some but left many in the industry wanting more.

The sop- a part of the budget proposals- announced on Saturday has not resolved the issue of double-taxation on ESOPs and does not apply to all startups registered with the Department for Promotion of Industry and Internal Trade (DPIIT), experts said.

“Overall impact won’t be as high as anticipated,” said Siddarth Pai, founding partner at 3one4 Capital.

To qualify for the exemption, startups must have a turnover below Rs 100 crore and be incorporated after March 31, 2016 but before April 1, 2021.

“The fundamental structure of ESOP taxation still remains the same – tax is paid at the point of exercise as salary and at the point of sale due to capital gains. The change instituted is a cash flow and timing issue,” Pai said.

However, the bigger benefit may accrue to ventures looking to retain valuable talent in the early years of starting up. “This will grant significant relief to the early stage employees who are co-contributors in a startup’s journey in the initial innovation years when liquidity is limited,” said Ramesh Kailasam, chief executive of IndiaTech, a lobby group representing Indian startups, but he rued the continuation of double-taxation on ESOPs’.

Startups have long demanded that tax on ESOPs must be levied only at the time of sale and not at the time of vesting, as valuation of new ventures remains volatile even as opportunities to sell are rare. Typically, in mature startup ecosystems, capital accrued from ESOPs by employees are often used to fund newer ventures or as initial capital to start fresh ventures. A virtuous cycle that could also take root in India, say startup industry members.

Further, while the latest sops announced by the FM could help well-funded startups retain talent, fledgling ventures could struggle, founders said.

However, the FM’s move to make more startups eligible for tax exemption – by raising the turnover limit from Rs 25 crore to 100 crore and up to a period of 10 years from incorporation as opposed to 7 years earlier–was widely acclaimed.

“This will help start-ups meet their working capital requirements during their initial crucial years of operations,” said EY India’s Ankur Pahwa.

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