On December 18, 2009, the Government of India issued guidance on the valuation, for India tax purposes, of equity awards.
Unfortunately, it is almost all bad news for multinationals who offer options, Restricted Stock Units ("RSUs") or Employee Stock Purchase Plans ("ESPP") for employees in India.
The new rules permit use of a market price on the relevant date (e.g., exercise of an option, vesting/release of shares under an RSU or purchase of shares under an ESPP). In fact, the average of the opening and closing price on the relevant day is mandatory. Unfortunately, however, this approach is specifically limited to
shares which trade on a "recognized" stock exchange, which are shares registered under the Indian Securities Contract (Regulation) Act. For this purpose, neither NASDAQ nor NYSE is considered a recognized stock exchange.
Accordingly, for U.S. issuers, the rules applicable to securities which do not trade on a recognized exchange apply. The rule is stated as follows: "Fair market value ... on the [relevant] date shall be such value as determined by a merchant banker on the specified date."
Hence, the valuation rules which applied during the Fringe Benefit Tax (FBT) regime will apply, including the need to engage a merchant banker for valuation purposes.
Even with a cashless exercise of an option, it appears that the need for a merchant banker valuation is not avoided, presenting the possibility of the employee having income on the option exercise based on the merchant banker valuation for the shares for that day and a simultaneous capital gain or loss on the sale transaction if the sale is at a different price than the valuation.
If an employer has used a different method of valuation since the April 1, 2009 elimination of FBT and replacement with the "taxation as a perquisite" regime currently in effect, amended reports would be required, unless perhaps a merchant bank valuation can be obtained to support the value previously reported.
It is a mystery as to why NASDAQ and NYSE are not treated as recognized exchanges for this purpose, but at least at this stage there seems to be no room to take that interpretation and to avoid use of a merchant bank.
