Discount On Shares Issued Under ESOP Is Deductible Business Expenditure: Kerala High Court

A Division Bench of Justice Devan Ramachandran and Justice Basant Balaji dismissed the Revenue's appeal against Geojit Financial Services Ltd and affirmed the order of the Income Tax Appellate Tribunal, Cochin Bench.

The Court held that the difference absorbed by a company between the market value of its shares and the discounted price at which they are allotted to employees represents expenditure incurred to secure their continued services and provide incentives. It cannot be treated as a short receipt or loss of capital.

The court observed: “As rightly found by the two Hon'ble High Courts, as per Section 37(1) of the 'IT Act', an assessee becomes fully entitled to claim deduction, if an expenditure has been incurred. This expression includes loss. Therefore, the allotment of shares under the 'ESOP' at a discounted price, can only construe a situation where the assessee absorbs the difference; hence, amounting to expenditure, for the purposes of Section 37(1) of the 'IT Act'. As also concluded by the Hon'ble High Court of Karnataka, this does not result in any wastage of capital, but in the earning of profits, by ensuring the services of employees and providing them with incentives, thereby taking it outside the concept of short receipt of capital.”

Geojit had allotted shares to its employees under an ESOP and claimed the resulting discount as business expenditure. The Assessing Officer disallowed the deduction. However, the first appellate authority allowed the claim, and the Tribunal subsequently dismissed the Revenue's appeal.

Before the High Court, Geojit relied on the Delhi High Court's decision in Commissioner of Income Tax Delhi-2 v. Lemon Tree Hotels (P) Ltd. and the Karnataka High Court's ruling in Commissioner of Income Tax (LTU) v. Biocon Ltd.

The Revenue contended that those decisions did not correctly state the law and that Geojit's case was factually distinguishable because it had not adopted the straight-line method for recognising ESOP expenses.

Rejecting the Revenue's contentions, the Court agreed with the Delhi and Karnataka High Courts. It noted that ESOP discount is not merely a notional expense and that requiring an employer to purchase shares from the market before claiming a deduction would ignore commercial realities.

Accordingly, both substantial questions of law were answered in favour of Geojit and the Tribunal's order was confirmed.

For Appellant: Senior Standing Counsel Jose Joseph and Cyriac Tom

For Respondent: Senior Counsel Joseph Markos, instructed by Abraham Joseph Markos and others