Employees stock option plans are the most-preferred incentive plan

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Published: March 25, 2019 3:25:00 AM

In corporate India, ESOPs are offered as incentives or rewards by employers to their employees.

Employees tend to be more participative and accountable when treated as business owners. (Illustration: Shyam Kumar Prasad)

Despite taxation issues, traditional Employee Stock Option Plan (ESOP) remains the most preferred share-based employee incentive plan in corporate India. A study by EY shows seven out of 10 companies have implemented ESOP.

The report suggests that the prominence of share-based incentive plans is evident across industries, including technology (19%), financial services (19%) and diversified manufacturing (16%). Apart from ESOP, other variants of share-based incentive plans such as Stock Appreciation Rights Plan (SAR) are preferred by 13% of respondent companies and is often rolled out by cash-rich companies where dilution of equity may be a concern.

In corporate India, ESOPs are offered as incentives or rewards by employers to their employees. In fact, a well-crafted share-based incentive plan will meet multiple objectives and benefit both employee and employer. Employees tend to be more participative and accountable when treated as business owners. They work towards creating wealth for themselves and profits for the organisation. Sonu Iyer, Tax Partner and National Leader, People Advisory Services, EY India, said, “Almost 50% of the organisations feel that share-based incentive plans have shown immediate desired results such as retention and enhanced performance of employees.”

Reward and retention
The EY’s Share Based Incentive Plan report shows most organisations use employee grade and performance as key considerations for determining the grant size. About 92% of the organisations surveyed prefer to cover select employees in the share-based plan.

Fresh issue of shares is most preferred as source of benefit as 87% of the respondents issued fresh shares. The report also highlights that the market price is most preferred as the exercise price, with 52% of the respondents offering shares to employees at market price as on the date of grant. Most organisations (77%) do not impose a lock-in period post allotment of shares and most listed organisations (78%) prefer sale on stock exchange as an exit strategy. The findings indicate that the capital committed by Indian organisations and multinational organisations vary, with 53% of multinational organisations and 45% of Indian organisations allocating up to 3% of their paid-up share capital towards share-based incentive plans. Vesting period is one of the most critical elements. These should be neither too short nor too long. A short vesting period may not meet the objective of retention for an organisation and a long vesting period may not be attractive enough for an employee.

Tax treatment for ESOPs
The lock-in period is the period post allotment of shares within which shares cannot be sold or transferred by employees. However, 77% respondent companies do not impose lock-in period on shares.
For tax purpose, ESOPs are a perquisite and employees are taxed on the difference of a stock’s purchase price and the selling value. If ESOPs are liquidated in less than 12 months, it is considered as short-term capital gain and profit will be taxed at 15%. If the firm is listed on stock exchange and shares are held for more than 12 months it will be considered as long-term capital gain and will be taxed at 10%.

Action plan for companies
In order to reap full benefits of the share-based incentive plan, EY recommends that organisations spend time in deciding the design features taking into consideration the objectives, market trends, regulatory requirements, current and future business projections within the overall employee reward and retention framework. Employers need to review the share-based incentive plan periodically to ensure changes are made to keep it attractive for employees and to meet objectives of the organisation.

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