Expenditure incurred by an Indian co. on issue of shares of foreign parent co. under ESOP is allowable as revenue expenditure
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Expenditure incurred by an Indian co. on issue of shares of foreign parent co. under ESOP is allowable as revenue expenditure

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Recently, the Bangalore Bench of the Income-tax Appellate Tribunal (the Tribunal) in the case of Novo Nordisk India Pvt. Ltd. held that expenditure incurred by an Indian company on the issue of shares ...

Recently, the Bangalore Bench of the Income-tax Appellate Tribunal (the Tribunal) in the case of Novo Nordisk India Pvt. Ltd. held that expenditure incurred by an Indian company on the issue of shares of foreign parent company under the Employees Stock Option Plan is allowable as revenue expenditure. The Tribunal observed that the expenditure is not capital in nature since it was incurred to compensate employees for continuity of service. Therefore, it would be allowed as revenue expenditure.

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Expenditure incurred by an Indian co. on issue of shares of foreign parent co. under ESOP is allowable as revenue expenditure Expenditure incurred by an Indian co. on issue of shares of foreign parent co. under ESOP is allowable as revenue expenditure Document Transcript

  • KPMG FLASH NEWS KPMG IN INDIA Expenditure incurred by an Indian company on issue of shares of foreign parent company under the Employees Stock Option Plan is allowable as revenue expenditure 29 October 2013 Background Recently, the Bangalore Bench of the Income-tax Appellate Tribunal (the Tribunal) in the case of Novo 1 Nordisk India Pvt. Ltd. (the taxpayer) held that expenditure incurred by an Indian company on the issue of shares of foreign parent company under the Employees Stock Option Plan (ESOP) is allowable as revenue expenditure. The Tribunal observed that the expenditure is not capital in nature since it was incurred to compensate employees for continuity of service. Therefore, it would be allowed as revenue expenditure. Facts of the case  The taxpayer, a wholly owned subsidiary of Novo Nordisk, Denmark (NNAS), was engaged in the marketing and distribution of healthcare products, specifically diabetes care products. The taxpayer sources the products from other Indian companies/NNAS and markets such products through wholesale distributors. ________________ 1 Novo Nordisk India Pvt. Ltd. v. DCIT (ITA No.1275/Bang/2011) – Taxsutra.com  NNAS has a scheme called NNAS Global Share Programme, 2005 (the Plan). As per the Plan the employees of NNAS were entitled to purchase shares of NNAS at a price less than the market price. Further, the Board of Directors of NNAS decided that the employees of the taxpayer would also be entitled to opt to purchase shares of NNAS under the Plan. The shares of NNAS were listed on the Copenhagen Stock Exchange.  As per the Plan, the difference between the purchase price of the shares and the average market price of the shares during the purchase offer period was recharged by NNAS to the taxpayer.  The taxpayer framed Novo Nordisk India Private Limited Employee Stock Purchase Scheme, 2005 (ESOP) whereby it offered shares of NNAS to its employees. The employees of the taxpayer who have opted for acquiring shares of NNAS under ESOP have to give their option to purchase and pay the money for acquiring the shares to the taxpayer. The taxpayer will make a lump-sum payment to NNAS on behalf of the employees. © 2013 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  •  During the year under consideration, the difference between the purchase price of shares and average market price of shares was recognised as employee cost, and claimed as revenue expenditure in computing the taxable income by the taxpayer.  There was an actual cash outflow from the taxpayer to the NNAS and there was no arrangement to pass on the capital expenditure of the NNAS as revenue expenditure to the taxpayer in India.  The Assessing Officer (AO) disallowed the claim of the taxpayer and held that it was a capital expenditure. The AO held that since the shares are not listed on the Indian 2 stock exchange and SEBI Guidelines were not applicable to the transactions, the deduction could not be allowed. Tribunal’s ruling  The Commissioner of Income-tax (Appeals) [CIT(A)] upheld the order of the AO. Issue before the Tribunal  Whether ESOP cost incurred by an Indian company on account of issue of shares of a foreign parent company is allowed as revenue expenditure? Taxpayer’s contentions  The facts of the present case are similar to the facts of 3 Accenture Services Pvt. Ltd . In the case of Accenture Services Pvt. Ltd., the shares were issued at the behest of the Indian company and not at the instance of the foreign parent company. In the present case also taxpayer has taken initiative to reward its employees rather than NNAS.  The taxpayer relied on Supreme Court’s decision in the 4 case of Sassoon J. David & Co. (P) Ltd. where it was held that if the taxpayer incurred any expenditure in the course of its business, even voluntarily and even without necessity, but if it is incurred for promoting the business and to earn profit, deduction under Section 37(1) of the Income-tax Act, 1961 (the Act) has to be allowed.  The taxpayer relied on the decision of the Karnataka 5 High Court in the case of Mysore Kirloskar Ltd. wherein the High Court observed that where somebody other than the taxpayer is also benefited by the expenditure should not be reason to disallow the expenditure.  Relying on the Direct-tax Notification it was contended that the taxpayer had duly complied with the guidelines prescribed in the said Notification and filed the ESOP scheme with the CCIT. 6 _________________ 2 Securities Exchange Board of India (Employee Stock Option Scheme and Employee Share Purchase Scheme) Guidelines, 1999 3 DCIT v. Accenture Services Pvt. Ltd. (ITA 4540/Mum/2008 for the A.Y. 2002-03, dated 23 March 2010) 4 Sassoon J. David & Co. (P) Ltd. v. CIT [1979] 118 ITR 261 (SC) 5 Mysore Kirloskar Ltd v. CIT [1987] 166 ITR 836 (Kar) 6 Notification No.323, dated 11 October 2011 – this is incorrectly quoted in the judgement. It is actually Notification No. SO 1021(E), dated 11 October 2001. There is no Notification No. 323 in October 2011.  The price at which shares were issued to the employees was paid by the employee to the taxpayer who in turn paid it to the NNAS. The difference between the issue price and fair market value of the shares was met by the taxpayer. This factual position was not disputed by the tax department and therefore, it could not be said that the expenditure was a capital expenditure of the NNAS.  There was no dispute that the liability has accrued to the taxpayer. NNAS has a policy of offering ESOP to its employees to attract the best talent as its work force and in pursuance of the said policy, NNAS allowed its affiliates across the world to issue its shares to the employees. The shares were acquired by the taxpayer from NNAS and there was an actual outflow of cash from the taxpayer to the NNAS.  ESOP expenditure has to be considered as expenditure incurred wholly and exclusively for the purpose of business of the taxpayer since the shares were issued to employees of the taxpayer and taxpayer has borne the difference in cost of the shares. The expenditure is necessary for the taxpayer to retain a healthy work force and business expediency.  The law is settled by the decision of the Bangalore Special Bench Tribunal in the case of Biocon 7 Ltd .where the Tribunal held that expenditure incurred on account of ESOP is revenue expenditure and had to be allowed as deduction while computing the income.  The NNAS has benefitted indirectly by such a motivated work force. However, this will not be the ground to deny the deduction of legitimate business expenditure to the taxpayer as laid down by the Supreme Court in the case of Sassoon J. David.  On perusal of the decision of Accenture Services Pvt. Ltd. it is clear that the shares of NNAS were allotted and given to the employees of the taxpayer in India at the behest of the taxpayer. However, the lower authorities presumed that the facts of the instant case were that the shares were allotted to the employees of the affiliate in India at the behest of NNAS. _____________ 7 Biocon Ltd. v. DCIT [2013] 35 taxmann.com 335 (Bang) © 2013 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  •  The taxpayer had its own framed NNIPL ESOP Scheme, 2005, to benefit its employees. NNAS may have a global policy of rewarding employees of affiliates with its shares being given at a discount and that policy might be the basis for the taxpayer to frame ESOP. However, it does not mean that the ESOP was at the behest of NNAS.  The Tribunal relying on the decisions of Sassoon J. David & Co. (P) Ltd. and Mysore Kirloskar Ltd. held that the expenditure was incurred wholly and exclusively for the business of the taxpayer and had to be allowed as a revenue expenditure. Our comments ESOPs are popularly implemented by corporate for the purpose of attracting and retaining its employees and for providing a sense of participation and ownership to employees. Uncertainty on the issue of deductibility of ESOP cost in the hands of employers and contrary views adopted by judicial authorities has accentuated this issue further. This is a welcome decision of the Bangalore Tribunal where it has been held that ESOP expenditure incurred on issue of shares of foreign parent company are allowed as revenue expenditure. It is important to note that recently, the Special Bench of the Bangalore Tribunal in the case of Biocon Limited held that discount on ESOP is deductible business expenditure since it represents consideration/compensation for services rendered by employees. © 2013 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
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