TaxTMI 
TaxTMI 
2017 (1) TMI 783
X X X X Extracts X X X X
X X X X Extracts X X X X
....d for appeal of AY 2009-10. 2. The assessee has raised the following grounds of appeal for the Assessment Year 2008-09:- "1. That the Commissioner of Income tax (Appeals) erred on facts and in law in sustaining the disallowance of Rs. 11,47,623 (as against correct amount of Rs. 10,89,249) made by the assessing officer on account of the difference between purchase price of Stock Appreciation Right OSAR) and the sale price of such SAR at the time of exercise by the employees, holding the same to be capital loss not allowable business deduction. 1.1 That the Commissioner of Income tax (Appeals) erred on facts and in law in not appreciating that the above differential amount actually represents the loan granted by the appellant to Religare Enterprises Ltd. Employees SAR Trust ('the Trust') for the purpose of administering Employee Stock Appreciation Right Scheme ('SAR scheme'), which was not meant to be and, in fact, not recovered from the latter in accordance with the SAR scheme. 1.2 That the Commissioner of Income tax (Appeals) erred on facts and in law in not appreciating that the above SAR scheme was implemented to motivate, reward and ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....heme ('SAR scheme'), which was not meant to be and, in fact, not recovered from the latter in accordance with the SAR scheme. 1.2 That the Commissioner of Income tax (Appeals) erred on facts and in law in not appreciating that the above SAR scheme was implemented to motivate, reward and retain key employees whereby each SAR granted to the employees of the appellant stood equivalent to one share of Religare Enterprises Ltd. ('REL') and the aforesaid differential amount was, thus, in the nature of employee benefit allowable under section 37(1) of the Income Tax Act, 1961 ('the Act'). 1.3 Without prejudice, the Commissioner of Income tax (Appeals) erred on facts and in law in not allowing deduction of the aforesaid amount of loan written off as loss incidental to business under section 28 of the Act." 4. The assessee is a limited company engaged in the business of providing granting of loan corporate advisory services and distribution of dividends etc. For the year It filed its return of income on 27/09/2000 declaring the total income of Rs. 22807670/- subsequently the return was revised on 29/03/2010 showing total income of Rs. 22490250/-.....
X X X X Extracts X X X X
X X X X Extracts X X X X
....on of the Ld. assessing officer and further enhanced the total income of the assessee by Rs. 27,89,501/- further as distribution of bonus incentive paid to the employees holding it to be a capital expenditure and therefore it is not allowable expenses. Therefore, against the total disallowance made by the Ld. assessing officer of Rs. 11,47,623/- he confirmed the addition of Rs. 39,37,124/- on account of the stock appreciation Right expenditure holding it to be a capital expenditures. Therefore aggrieved by the order of the Ld. first appellate authority assessee is in appeal before us. 5. The Ld. authorized representative submitted before us that that above expenditure is incurred by the assessee in accordance with Religare enterprise Ltd's employee stock appreciation Right scheme of 2007. He placed on record the scheme. He further took us to the trust deed between the appellant and this trust of the scheme to administer the above stock appreciation Right scheme. He further placed before us the audited financial statements of the trust for financial year 2007 - 08 and 2008 - 09. He submitted that those salient features of the stock appreciation rights scheme are to reward and ret....
X X X X Extracts X X X X
X X X X Extracts X X X X
....price and the purchase price is also allowable to the assessee as a revenue loss and according to him, both these claim are allowable. He further submitted that above issue is now squarely covered in favour of the assessee by the decision of the Hon'ble Delhi High Court in case of CIT versus Lemon tree hotels Ltd, ITA No. 107 - 2015 date 18/08/2015. He further submitted that the about issue is also squarely covered in favour of the appellant in view of the decision of the Hon'ble Madras High Court in case of CIT versus M/s PVP ventures Ltd reported at 211 taxman 554. He further relied on the decision of the special bench of ITAT in Biocon Ltd versus deputy Commissioner of income tax reported at 155 TTJ 649 wherein it is held that discount on issue of employee stock option plans cannot be said to be a contingent liability but the real liability and same is allowable as deduction even though the liability may have to be quantified and discharged at a future date. He further submitted that the decision of the Ranbaxy laboratories relied upon by the Ld. assessing officer has been overruled by the decision of the special bench in case of Biocon Ltd. He further referred to the decision o....
X X X X Extracts X X X X
X X X X Extracts X X X X
....hts would be exercised by the employees equally each year. On analyzing the scheme of these stock appreciation rights. It was held by the Ld. first appellate authority that it is akin to the employee's stock option schemes. The issue of deductibility of ESOP expenditure has been decided extensively by the special bench of ITAT in Biocon Limited V DCIT (LTU ) Bangalore in 144 ITD 21 as under :- "8. We will take up these three steps one by one for consideration and decision. I. WHETHER ANY DEDUCTION OF SUCH DISCOUNT IS ALLOWABLE ? 9.1 The crux of the arguments put forth by the ld. AR is that discount under ESOP is nothing but employees cost incurred by the assessee for which deduction is warranted. On the other hand, the Revenue has set up a case that no deduction can be allowed as such discount is not only a short capital receipt but also a contingent liability. A. Is discount under ESOP a short capital receipt? 9.2.1 The ld. DR stated that the question of deduction u/s 37 can arise only if the assessee incurs any expenditure, which thereafter satisfies the requisite conditions of the sub-section (1). He submitted that the word "expenditu....
X X X X Extracts X X X X
X X X X Extracts X X X X
....554/23 taxmann.com 286. The learned AR argued that PVP Ventures Ltd. (supra) is a solitary judgment rendered by any High Court on the issue and hence the same needs to be followed in preference to any contrary Tribunal order. It was also pointed out that the Chennai bench's view has been subsequently followed by the Chandigarh Bench of the Tribunal in Asstt. CIT v. Spray Engineering Devices Ltd. [2012] 23 taxmann.com 267/53 SOT 70 (URO). 9.2.3 Let us examine the facts of the case of Ranbaxy Laboratories Ltd. (supra), which has been strongly relied by the learned Departmental Representative. It deals with a situation in which the assessee granted stock option to its employees. The shares were to be issued at Rs. 559 per share as against the face value of Rs. 10 and the market price on the date of grant at Rs. 738.95 per share. The assessee treated the difference between Rs. 738.95 and Rs. 595 as employees compensation in the books of account and charged the same to its Profit and loss account by spreading it over the vesting period. It was one of the years of the vesting period for which the assessee claimed deduction that came up for consideration before the Tribunal. ....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... completion of vesting period and the time for exercising the options is usually negligible. The company, on the exercise of option by the employees, allots shares to them who can then freely sell such shares in the open market subject to the terms of the ESOP. Thus it can be seen that it is during the vesting period that the options granted to the employees vest with them. This period commences with the grant of option and terminates when the options so granted vest in the employees after serving the company for the agreed period. By granting the options, the company gets a sort of assurance from its employee for rendering uninterrupted services during the vesting period and as a quid pro quo it undertakes to compensate the employees with a certain amount given in the shape of discounted premium on the issue of shares. 9.2.5 The core of the arguments of the ld. DR in this regard is two- fold. First, that it is not an expenditure in itself and secondly, it is a short capital receipt or at the most a sort of capital expenditure. In our considered opinion both the legs of this contention are legally unsustainable. 9.2.6 There is no doubt that the amount of share pre....
X X X X Extracts X X X X
X X X X Extracts X X X X
....irst situation, the company, say, on receipt of premium amounting to Rs. 100 from issue of shares to public, gives Rs. 60 as incentive to its employees, such incentive of Rs. 60 would be remuneration to employees and hence deductible. In the same way, if the company, instead, issues shares to its employees at a premium of Rs. 40, the discounted premium of Rs. 60, being the difference between Rs. 100 and Rs. 40, is again nothing but a different mode of awarding remuneration to employees for their continued services. In both the cases, the object is to compensate employees to the tune of Rs. 60. It follows that the discount on premium under ESOP is simply one of the modes of compensating the employees for their services and is a part of their remuneration. Thus, the contention of the ld. DR that by issuing shares to employees at a discounted premium, the company got a lower capital receipt, is bereft of an force. The sole object of issuing shares to employees at a discounted premium is to compensate them for the continuity of their services to the company. By no stretch of imagination, we can describe such discount as either a short capital receipt or a capital expenditure. It is not....
X X X X Extracts X X X X
X X X X Extracts X X X X
....enditure' as : 'Any sum of money or money's worth spent or disbursed or for the spending or disbursing of which a liability has been incurred by an assessee......'. When section 43(2) of the Act is read in conjunction with section 37(1), the meaning of the term 'expenditure' turns out to be the same as is there in the aforequoted part of the definition under section 2(h) of the Expenditure Act, 1957, viz., not only 'paying out' but also 'incurring'. Coming back to our context, it is seen that by undertaking to issue shares at discounted premium, the company does not pay anything to its employees but incurs obligation of issuing shares at a discounted price on a future date in lieu of their services, which is nothing but an expenditure u/s 37(1) of the Act. 9.2.8 Though discount on premium is nothing but an expenditure u/s 37(1), it is worth noting that the Hon'ble Supreme Court in the case of CIT v. Woodward Governor India (P.) Ltd. [2009] 312 ITR 254/179 Taxman 326 has gone to the extent of covering "loss" in certain circumstances within the purview of "expenditure" as used in section in 37(1). In that case, the assessee incurre....
X X X X Extracts X X X X
X X X X Extracts X X X X
....s so granted may lapse during the vesting period itself by reason of termination of employment or some of the employees may not choose to exercise the option even after rendering the services during the vesting period. It was, therefore, argued that the discount is nothing but a contingent liability during the vesting period not calling for any deduction. In the opposition, the learned AR submitted that the amount of discount claimed by the assessee as deduction is not a contingent liability but an ascertained liability. He stated that in the ESOP 2000, there is a vesting period of four years, which means that the options to the extent of 25% of the total grant would vest with the eligible employees at the end of first year after rendering unhindered service for one year and it would go on till the completion of four years. 9.3.2 It is a trite law and there can be no quarrel over the settled legal position that deduction is permissible in respect of an ascertained liability and not a contingent liability. Section 31 of the Indian Contract Act, 1872 defines "contingent contract" as "a contract to do or not do something, if some event, collateral to such contract does not ha....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ied the liability is not a contingent one. The liability is in praesenti though it will be discharged at a future date. It does not make any difference if the future date on which the liability shall have to be discharged is not certain." From the above enunciation of law by the Hon'ble Supreme Court, it is manifest that a definite business liability arising in an accounting year qualifies for deduction even though the liability may have to be quantified and discharged at a future date. We consider it our earnest duty to mention that the legislature has inserted clause (f) to section 43B by providing that "any sum payable by the assessee as an employer in lieu of any leave at the credit of his employee" shall be allowed as deduction in computing the income of the previous year in which such sum is actually paid. With this legislative amendment, the application of the ratio decidendi in the case of Bharat Earth Movers (supra) to the provision for leave encashment has been nullified. However, the principle laid down in the said judgment is absolutely intact that a liability definitely incurred by an assessee is deductible notwithstanding the fact that its quantification may take ....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... 9.3.6 As regards the contention of the ld. DR about the contingent liability arising on account of the options lapsing during the vesting period or the employees not choosing to exercise the option, we find that normally it is provided in the schemes of ESOP that the vested options that lapse due to non-exercise and/or unvested options that get cancelled due to resignation of the employees or otherwise, would be available for grant at a future date or would be available for being re-granted at a future date. If we consider it at micro level qua each individual employee, it may sound contingent, but if view it at macro level qua the group of employees as a whole, it loses the tag of 'contingent' because such lapsing options are up for grabs to the other eligible employees. In any case, if some of the options remain unvested or are not exercised, the discount hitherto claimed as deduction is required to be reversed and offered for taxation in such later year. We, therefore, hold that the discount in relation to options vesting during the year cannot be held as a contingent liability. C. Fringe benefit 9.4.1 There is another important dimension of this issu....
X X X X Extracts X X X X
X X X X Extracts X X X X
....and (iii) it cannot be treated as a short capital receipt. In view of the foregoing discussion, we are of the considered opinion that discount on shares under the ESOP is an allowable deduction. II. IF YES, THEN WHEN AND HOW MUCH? 10.1 Having seen that the discount under ESOP is a deductible expenditure u/s 37(1), the next question is that 'when' and for 'how much' amount should the deduction be granted ? 10.2 The assessee is a limited company and hence it is obliged to maintain its accounts on mercantile basis. Under such system of accounting, an item of income becomes taxable when a right to receive it is finally acquired notwithstanding the fact that when such income is actually received. Even if such income is actually received in a later year, its taxability would not be evaded for the year in which right to receive was finally acquired. In the same manner, an expense becomes deductible when liability to pay arises irrespective of its actual discharge. The incurring of liability and the resultant deduction cannot be marred by mere reason of some difficulty in proper quantification of such liability at that stage. The very point of inc....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... abundantly clear that an employee becomes entitled to the shares at a discounted premium over the vesting period depending upon the length of service provided by him to the company. In all such schemes, it is at the end of the vesting period that option is exercisable albeit the proportionate right to option is acquired by rendering service at the end of each year. 10.4 Similar is the position from the stand point of the company. An obligation falls upon the company to allot shares at the time of exercise of option depending upon the length of service rendered by the employee during the vesting period. The incurring of liability towards the discounted premium, being compensation to employee, is directly linked with the span of service put in by the employee. In the above illustration, when 25 out of 100 shares vest in the employee after rendering one year's service, the company also incurs equal obligation at the end of the first year for which it becomes entitled to rightfully claim deduction u/s 37(1) of the Act. Similarly at the end of the second year of service by the employees, the company can claim deduction for discounted premium in respect of further 25 shares....
X X X X Extracts X X X X
X X X X Extracts X X X X
....s held that the expenditure in that behalf was an ascertained liability and not contingent upon happening of certain events. It was further noticed that the assessee claimed deduction of such discount on ESOP by following the SEBI Guidelines. As the expenditure itself was an ascertained liability, the Tribunal held that the same to be deductible. 10.7 Before proceeding further it would be befitting to take stock of the nutshell of the SEBI Guidelines in this regard. These Guidelines provide for granting of deduction on account of discount on issue of options during the vesting period. It has been so explained with the help of an example in Schedule I to the Guidelines. For the sake of simplicity, we are taking an instance under which an option of share with face value of Rs. 10 is given under ESOP to employees at the option price of Rs. 10 as against the market price of such shares at Rs. 110 on that date. Further suppose that the vesting period is four years with equal vesting @ 25% at the end of each year. Total discount comes to Rs. 100 (Rs. 110 - Rs. 10). These Guidelines provide for claiming deduction in the accounts for a total discount of Rs. 100 divided over the ve....
X X X X Extracts X X X X
X X X X Extracts X X X X
....d on the basis of market price at the time of grant of options, needs to be suitably adjusted with the actual amount of discount. 11.1.3 As regards the adjustment of discount when the options remain unvested or lapse at the end of the exercise period, it is but natural that there is no employee cost to that extent and hence there can be no deduction of discount qua such part of unvested or lapsing options. But, as the amount was claimed as deduction by the company during the period starting with the date of grant till the happening of this event, such discount needs to be reversed and taken as income. It is so because logically when the options have not eventually vested in the employees, to that extent, the company has incurred no employee cost. And if there is no cost to the company, the tentative amount of deduction earlier claimed on the basis of the market price at the time of grant of option ceases to be admissible and hence needs to be reversed. The ld. AR stated that the discount in respect of the unvested/lapsing options has been reversed on the happening of such events and the overall employee cost has been correspondingly reduced. We find that the SEBI Guideline....
X X X X Extracts X X X X
X X X X Extracts X X X X
....employer, free of cost or at concessional rate to the assessee'. Clause (c) of Explanation to section 17(2)(vi) provides that : 'the value of any specified security or sweat equity shares shall be the fair market value of the specified security or sweat equity shares, as the case may be, on the date on which the option is exercised by the assessee as reduced by the amount actually paid by, or recovered from, the assessee in respect of such security or shares'. Two things surface from the above provisions. First, that the perquisite arises on the 'allotment' of shares and second, the value of such perquisite is to be computed by considering the fair market value of the shares on 'the date on which the option is exercised' by the assessee as reduced by the amount actually paid. The position that such amount was or was not taxable during some of the years in the hands of the employees is not relevant in considering the occasion and the amount of benefit accruing to the employee under ESOP. Any exemption or the deductibility of an allowance or benefit to employee from taxation does not obliterate the benefit itself. It simply means that the benefit accrued t....
X X X X Extracts X X X X
X X X X Extracts X X X X
....be precisely determined only at the time of the exercise of option by the employees, the provisional amount of discount availed as deduction during the vesting period needs to be adjusted in the light of the actual discount on the basis of the market price of the shares at the time of exercise of options. It can be done by making suitable northwards or southwards adjustment at the time of exercise of option. This can be explained with the following example with the assumption of vesting period of four years and the benefit vesting at 25% each at the end of 1st to 4th years:- At the time of granting option At the time of exercise of option Situation I Situation II Situation III Market value per share 110 110 130 90 Option price 10 10 10 10 Employee s compensation or Discount 100 100 120 80 11.1.7 From the above table it can be noticed that the market price of the shares at the time of grant of option was Rs. 110 against the option price o....
X X X X Extracts X X X X
X X X X Extracts X X X X
....s have been rightly given effect to. But the appellant assessee does not appear to have made any downward adjustment to the amount of discount at the time of exercise of option by the employees with the difference in the market price of the shares at the time of grant of option and price at the time of exercise of option. The argument seems to be that the SEBI Guidelines do not provide for such downward adjustment. It has been argued by the ld. AR that where the provisions of the Act specifically provide for treatment of a particular source of income in a particular manner, then the germane provision should be followed. If, however, there is no specific provision dealing with an issue in the Act, then the accounting principles should be adhered to while determining the total income of the assessee. In this regard, he relied on the judgment in the case of Challapalli Sugars Ltd.'s (supra), wherein the Hon'ble Supreme Court has held that the interest payable on capital borrowed by the assessee for purchase of plant and machinery before the commencement of business should be capitalized on the basis of accepted accountancy rule. Similarly in the case of U.P. State Industrial D....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... item of income. General provisions are those which set out the overall principles to govern the deductibility or taxability of unspecified items. For example, the definition of 'income' u/s 2(24) has been given by the Act in an inclusive manner. There have been enshrined clauses (i) to (xvi) dealing with the items specifically listed. However, the provision has been couched in such a way so as to include general items of receipts having character of income, even though not specifically mentioned. Similar is the position regarding deductions. Under the head 'Profits and gains of business or profession', there are sections granting deductions in respect of specific expenses or allowances. Similarly, there is section 37(1), which grants deduction for expenses not specifically set out in other sections, if the conditions stipulated in the section, are fulfilled. All other items of expenses, which fulfil the requisite conditions, gain deductibility under section 37(1). To put it in simple words, this section is a specific provision for granting deduction in respect of the unspecified or the general categories of expenses. Discount on ESOP is a general expense and hence ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....mination of total income under the Act. If an accounting principle is referred to by the higher judiciary, then there is an underlying presumption that such accounting principle is in conformity with and not in conflict with the taxation principle. The essence of the matter is that taxation principles are to be followed. If an accounting principle is in conformity with the mandate of taxing principle and reference is made to such accounting principle while deciding the issue, it does not mean that the accounting principle has been followed. It simply means that the taxation principle has been followed and the accounting principle, which is in line with such taxation principle, has been simply taken note of. If however, an accounting principle runs counter to the taxation principle, then there is no prize for guessing that it is only the taxation principle which shall prevail. 11.2.8 The plea now raised before us by the ld. AR, relying on the case of Challapalli Sugars Ltd. (supra), was also taken up before the Hon'ble Supreme Court in the case of Tuticorin Alkalis Chemicals & Fertilizers Ltd (supra). Dealing with the same, the Hon'ble Supreme Court held that : "The....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ns were vesting with the employees and the company claimed discount during the vesting period. The Hon'ble Madras High Court in the case of PVP Ventures Ltd. (supra) has upheld the view taken by the Chennai Bench in the case of S.S.I. Ltd. (supra). The granting of the binding force to the SEBI Guidelines by the Hon'ble Madras High Court should be viewed in the context of the issue before it, which was about the deductibility of discount during one of the vesting years. In the earlier part of this order, we have held that the deductibility of discount during the vesting period, as prescribed under the SEBI Guidelines, matches with the treatment under the mercantile system of accounting. To that extent, we also hold that the SEBI guidelines are applicable in the matter of deduction of discount. Neither there was any issue before the Hon'ble Madras High Court nor it dealt with a situation in which the market price of the shares at the time of exercise of option is more or less than the market price at the time of grant of option. It is a situation which has also not been dealt with by the Guidelines. Accordingly, the aforenoted taxation principle of granting deduction for ....