An employee stock ownership plan (ESOP) is a type of employee benefit plan in which an employee has the right to purchase shares at a discounted price without any underlying requirement to do so. It is usually offered as a reward for good performance or for staying with the company for a long time. It also acts as a motivator because when you buy stock, you own a piece of the business and if the company does well the stock value increases. ESOPs have recently been used successfully to recruit, maintain, inspire, and pay workers. It is essential to ensure that ESOPs are appealing to staff, easy to understand and manage and communicate the employer's underlying message. Accounting consequences of issuing ESOPs have undergone significant changes in recent years and have become a key factor in the decision-making process. This trend was initiated by IT firms, but now many businesses in various sectors offer ESOPs to employees - even startups depend on ESOP to attract talent.
How does ESOP work?
After the option period, a corporation grants ESOPs to its employees in exchange for buying a specified number of shares of the company at a specified price after a certain number of years. Before an employee can exercise his right, he must first go through the pre-defined vesting period, which means the employee must work with the company before a portion or all of his stock options can be exercised.
Who is eligible to receive ESOPs in India?
ESOP grants are only available to permanent employees of the company or its subsidiaries. As a result, part-time staff, contractors, counselors, and mentors are ineligible for ESOPs.
ESOPs are also available to directors on the board. An investor/adviser on the company's board of directors is qualified for ESOPs; however, a board observer or an independent director on the board is not. DPIIT-recognized startups' founders/promoters are registered for ESOPs for up to ten years from the date of incorporation. On the Startup India website, you can apply for the DPIIT recognized startup certificate.
What is the benefit of offering ESOPs to their employees?
ESOPs are offered by companies with long-term goals. Companies not only want to keep their workers for the long haul, but they also want to turn them into shareholders. If necessary, the company can save money by diluting its ownership. Employee stock ownership plans favor the company. Most IT businesses have unprecedented attrition rates, and ESOPs may help them reduce these high attrition rates. Startups offer stocks as a way to recruit talent. Frequently, such companies are cash-strapped and unable to pay competitive wages. However, by including an interest in their company in their pay plan, they make it more competitive.
How does an employee benefit from ESOPs?
Employee stock ownership plans (ESOPs) allow employees to buy company stock at a discounted price and sell it at a profit after a fixed period of time, determined by the employer. If the timing is correct and the business does well, an employee can build wealth through ESOPs.
Tax Implication of ESOPs
The difference between the market value and the exercise value is considered a prerequisite when the employee exercises his incentive to purchase the stock. It is taxable according to the employee's tax bracket. The benefit is viewed as capital gains when the employee sells the shares. If the shares are sold within a year, a 15% capital gains tax will be charged, just as for any other acquisition or selling of stock. There is no tax if the stock is sold after one year because it is considered long-term. However, according to changes in Budget 2018, sales of equity shares kept for more than a year on or after April 1, 2018, will be subject to a 10% tax rate and a 4% cess. Short-term capital gains (STCG) are subject to a 15% tax limit.