Budget 2020: Egregious State Oppressing Performers (ESOP)

ESOP continues to be a much-abused acronym. As it stands, it expands to an Egregious State Oppressing Performers!

Budget 2020 analysis on ESOP

(Photo: The Quint)

Before Finance Minister Sitharaman’s 165-minute exertion in Parliament, I had posited that the true touchstone of her success would not be a tax nick here and an expenditure tuck there; instead, the only way she could revive our flagging economy is by creating T.R.U.S.T., ie

So, Did She Pull It Off? Well, Yes and No

There were several pious proclamations about nurturing wealth creators, curbing tax excesses, and making life/business easier. But as always, when these noble thoughts were refracted via a bureaucratic prism, they came through mangled and defeated. Nothing illustrates this better than the much touted “reform” of ESOP (Employees’ Stock Option Plan)-taxation.

Alas, ESOP continues to be a much-abused acronym. As it stands today, it expands to an Egregious State Oppressing Performers!

A Quick Detour to History

An umbilical cord links me with ESOP-taxation in India. When I founded TV18 in the early 90s, we had given generous stock options to our critical team members. In that sense, we belonged to a clutch of ESOP pioneers in India. And since we were leaders in business news, we also drilled hard into issues around entrepreneurship, taxation and Union budgets.

Now cut to that fateful Union Budget of 2007. The aggressive Mr Chidambaram had unveiled a shocking model of ESOP-taxation. Let me explain with a simple example:

Imagine a stock/share whose Fair Market Value is Rs 100. To incentivise a key employee, assume she is given a Grant of 1 million options at Rs 10, thereby giving her a potential income of Rs 90 million – it’s a potential, and not real/realised, income because no actual shares have come into her possession yet. Now assume further that she has two years to tell the company whether she is accepting the Grant or not. This is called the Exercise Period. The minute she says “yes, I want the Grant”, she has Exercised it.

But note that it could take several more weeks, even months, of regulatory steps for her to actually own these shares after she has said “yes”.

This is where the trouble started. Mr Chidambaram said she should pay the tax immediately upon the Exercise.

But there’s a problem, right? She has yet to get the shares; all the “gains” are notional, on paper. So how and why should she pay a tax on an illusory income?

Worse, imagine that she gets the shares in three months, but some adverse event had occurred in that hiatus, and the value of each stock had dropped to Rs 5 from Rs 90.

Now see the ridiculous situation that she finds herself in: She would have paid tax on an “income” of Rs 90 million, even though she has made a loss of Rs 5 million.

So Mr Chidambaram’s budget’s logic was clearly absurd. It flew in the face of every canon of taxation, ie paying a tax on notional income, even losses.

It happened only in India!

When I aggressively questioned a harried Mr Chidambaram on the perfidy of his proposed ESOP tax, he dug in and defended his thesis, trotting out his copious legal expertise.

But I persisted. “Sir, it’s so anti-employee that I am at a loss for words. Instead of creating incentives, you are victimising the poor lady, asking her to cough up taxes when she hasn’t earned even a twisted paisa, and may indeed lose if the business turns down in the interregnum. This is almost penal”, I protested. But the erudite Mr Chidambaram stuck to his guns.

What Mr Chidambaram Did, Mr Jaitley Did Not Undo

This ESOP perfidy persisted over a dozen years, with generation after generation of start-up entrepreneurs crying blue murder over such a patently unfair/regressive tax regime. The crescendo only got louder after Prime Minister Modi extolled first-generation founders to the status of “Demi Gods”. Unfortunately, his accolades, while grand and verbose, failed to kill the tax or cut any ice with his finance minister. For five years, the venerable Mr Arun Jaitley, a legal titan like Mr Chidambaram, remained unmoved.

Until Ms Nirmala Sitharaman Did…

But the yelling and screaming escalated, until a chastened M/s Modi & Sitharaman decided to accede. With equal grandeur, Ms Sitharaman announced that she had fixed the long-festering ESOP tax wound:

(Photo: The Quint)

Indian start-ups erupted in cheers.

Frankly, we are a strange country, which applauds when a mistake, that should not have happened in the first place, is corrected after a dozen years of exploitative, vicious implementation.

Because in India, an excruciatingly delayed correction is called a “reform”!

And We The People sing hosannas, being grateful for something that should have accrued to us as a right.

Wait. Her Bureaucrats Struck Back…

Anyway, the real drama and tragedy, a la a Garam Dharam Bollywood potboiler, lay coiled in the fine print. As usual, unwaveringly, with deadly precision, India’s bureaucrats struck to neuter even this tiny “reform”. Just see what they did:

It’s not a general policy applicable to all 20,000 odd start-ups.

No sir, it’s restricted to only about 250 of the “few chosen” by a committee of government secretaries who have ordained, with divine conviction, that “come hither, you innovative newbies, enjoy these ESOP tax concessions”. There is a sharper sting in the tail – the perverse tax is not abolished, only deferred by 5 years; and if you leave the company, you lose the concession, with one stroke creating a rigid, inflexible market for hiring talent.

So there they go again, micro-managing and tinkering with the free market of mobile talent!

And finally, why is this concession not given to any ESOP holder? Is the engineer who made Facebook apps work on Jio feature phones any less talented and creative? Why is he denied this concession just because he works in a large company? Is talent the determinant or the size of the employer’s balance sheet?

What can I say in the end? I truly believe that Ms Sitharaman’s quest was honest. She wanted to correct an injustice. But her bureaucrats simply torpedoed her noble intention.

Unfortunately, that’s how her Budget failed to win T.R.U.S.T.