Flipkart ESOP Buyback Gains Taxable As LTCG, Not Salary: What The ITAT Ruling Means For Employees

The Bengaluru bench of the Income Tax Appellate Tribunal (ITAT) ruled that consideration received from the buyback of vested but unexercised employee stock options (ESOPs) cannot automatically be taxed as salary.

Instead, where the options have not been exercised and no shares have been allotted, the proceeds may be taxable as long-term capital gains (LTCG), the tribunal's ordered in the case of Flipkart executive Pramod Kumar Jain on July 31.

The decision arose from a dispute over ₹2.33 crore received by Jain after Flipkart Private Limited, Singapore repurchased 2,653 vested stock options granted under the Flipkart Stock Option Plan, 2012.

According to the tribunal, Jain had reported a gross salary of ₹1.90 crore and declared the gains from the buyback under the capital gains head in his income tax return. The Assessing Officer, however, treated the buyback proceeds as a salary perquisite under Section 17(2) of the Income Tax Act, relying on Form 16 and the employer's tax deduction at source (TDS). That view was subsequently upheld by the Commissioner of Income Tax (Appeals) before the matter reached the ITAT.

Why Tribunal Rejected The Salary Tax Treatment

The tribunal said the dispute hinged on whether vested but unexercised stock options could be regarded as "specified securities" under Section 17(2)(vi) of the Income Tax Act.

After examining the law, the bench observed that taxation as a salary perquisite is triggered only after an employee exercises the option and receives the underlying shares. Since Jain never exercised the options and no shares were allotted, that stage had not been reached.

"Until then, it is merely an employee's stock option, i.e. the option available to the employee to subscribe to the shares underlying the stock option, which cannot be considered to be a 'specified security' under the provisions of section 17(2)(vi) of the Act," the bench of Judicial Member Sandeep Singh Karhail and Accountant Member Balakrishnan S said.

The tribunal further held that the vested options represented a right to subscribe to shares at a future date, making them a capital asset. Consequently, the repurchase of those rights amounted to a transfer, with the gains taxable under the capital gains provisions rather than as salary.

What The Ruling Means For Employees

The ruling could be significant for employees of startups and technology companies, where ESOPs are widely used as part of compensation and liquidity is often achieved through buybacks, secondary transactions, acquisitions or mergers instead of public listings.

However, the tribunal's findings are closely linked to the specific facts of the case, particularly that the stock options were vested but never exercised.

The bench clarified that the same ESOP can attract different tax treatment depending on the stage of the transaction. It noted that stock options can still be taxed as a salary perquisite under Section 17(2)(vi), but only after the employee exercises the option and shares are allotted.

It further observed that any subsequent sale of those shares would then fall under the capital gains provisions.

This distinction was highlighted by the tribunal while explaining the various stages of an ESOP transaction — from the grant and vesting of options to their exercise, allotment of shares and eventual sale.

Since only the grant and vesting stages had been completed in Jain's case, the tribunal concluded that the provisions governing salary perquisites were not triggered.

Form 16 And TDS Are Not Conclusive

The tribunal also rejected the Income Tax Department's reliance on Form 16, Form 26AS and tax deducted at source (TDS) to determine the nature of the income.

It observed that the taxability of an amount has to be determined under the law and not by the manner in which it is reported by an employer. The bench further noted that the tax treatment mentioned in Flipkart's repurchase offer documents was only an indicative summary and could not override statutory provisions.

"The deduction of TDS by the payer is not the ultimate determinative factor on the taxability of income in the hands of the payee, as the deduction of tax at source is only an advance mechanism for the collection of tax and not the final tax liability of the payee, the tribunal said while referring to Article 265 of the Constitution.