What Is ESOP Employee Stock Ownership Plan Explained

1. What Is ESOP? Employee Stock Ownership Plan Explained

2. Employee Stock Ownership Plans (ESOP) have become popular recently due to the various benefits they provide the company and the employees. It is a well-known fact that we tend to care about the things we own and providing employee stock options in the company makes your employee feel a sense of ownership in your company. Hence, many companies have started providing ESOP to their employees in a bid to retain talented employees to gather more interest in their work and the overall company’s success. It helps in garnering long-term interest, thereby reducing employee turnover. It also provides them with an investment option and motivates them to work harder. The company redistributes shares in addition to the employee compensation package which employees receive, creating a win-win environment.

3. What is ESOP (Employee Stock Ownership Plan)? How Does ESOP Work? The Employment Stock Ownership Plan (ESOP) provides employees with stock options as a part of their benefits plan to help them stay invested in their company and work towards improving company performance and turnover. Additionally, ESOP also provides them with added incentive to stay longer with their organization, thereby reducing employee turnover. Since the ESOP scheme provides the staff with stock options, they would be actively involved in their work since it benefits them directly. On the other hand, the company gains loyal staff who would feel appreciated, since the company is offering them stock options in return for their services. ESOPs are granted by employers to their employees as a form of employee compensation to ensure long-term loyalty and improved productivity. Hence, the management, administration, and the HR department consult with each other to decide the number of shares to be offered, their pricing, as well as the beneficiaries of these stocks. Once these factors are decided, the eligible employees themselves are intimated about their inclusion in the ESOP and a grant date is decided. Once the ESOP is approved, they remain in a trust fund for a specific duration, defined as a vesting period. The employees are required to stay in the company within this vesting period to avail the full ownership interest of the stock. At the end of the vesting period, the employees are given the right to exercise their ESOPs. One should note that the employees are required to buy the shares after the vesting period expires for owning them. They can even sell these shares for a profit later.

4. What are the Associated Costs? How to Register an ESOP? There are no ESOP up-front costs associated with providing ESOP to the employees. The company may even choose to hold the shares on behalf of their employees in a trust, and later hand them over to the staff member when they leave the company. Due to such a vesting date, the employee becomes eligible to earn an increasing amount of equities every year, until they remain in service with their company. When the employee leaves the company, the company can ‘buy back’ their shares from the staff member. Based on company policies, the organization can pay a lump sum amount for buying the stock back. • Following are the steps to be following while registering for an ESOP: 1. Create the ESOP Blueprint Creating a blueprint of the Employee Stock Ownership Plan outlining the exact ESOP rules is essential for granting ESOP benefits to your employees. This blueprint will outline which employees are to be included under the ESOP, under which conditions they become eligible for ESOP and what happens when their employment with the company is terminated. 2. Documentation and Approvals Once the blueprint is created, it is proofread thoroughly and documented to avoid any loopholes. The blueprint is then shared with the board of directors and other stakeholders in the company for their approval. They may even suggest some changes if required and the modified document is once again sent for approval.

5. 3. Draft Director’s Resolutions Every time a new option is granted to an employee, you should discuss it with management perspective and your director for collecting their resolutions in writing, which approves the grant of options to a specific staff member. 4. Share the Grant Letter Once you receive the grant letter from the director, you can issue the ESOP certificate to the employee. The grant letter lets the employee understand the tax benefits of their Employee Stock Ownership Plan as well as the number of stocks granted to them. It also provides them with proof of ownership of their stocks. 5. Update Register The company should maintain a register of all stock options provided, the employee to whom it was shared, grant date, expiry date (if any), exercise dates, etc. Maintaining a record of these values helps the company keep a track of the shares vested with their employees.

6. Tax Implications of ESOP • ESOPs are covered various tax implications as follows: ➔ Exercise Tax When the employee chooses to exercise their Employee Stock Ownership Plan and buy the share, they are required to pay tax on the difference between the ‘exercise price’ and the ‘fair market value (FMV)’ or market value of the share at the time of exercise. This tax is calculated as per the employee’s income tax slab rate. The fair market value or the market price of the shares are decided by various factors. ➔ Capital Gains Tax If the employee sells the ESOP shares, then capital gains tax is applicable. Hence, the employee will have to pay the short-term capital gains taxes, depending on the holding period of the shares. If the employee sells beyond a span of 12 months after the initial purchase, a 10% capital gain tax would be applied over gains of ₹1 lakh. On the other hand, if the shares are sold within a year, the gains are subjected to a tax rate of 15%. ➔ Dividend Tax If the organization is paying dividends on the shares held by their staff member, it is taxable as per the applicable tax rates. While the dividends are taxable, the employee is still able to reap the profits of the company by holding the shares allocated to them.

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