Introduction

In Pramod Kumar Jain v. DCIT, the Income Tax Appellate Tribunal,Bengaluru (“ITAT”) considered whether consideration received by an employee upon the repurchase of vested but unexercised employee stock options (“ESOPs”)is taxable as an employment-related perquisite under section 17(2)(vi) of the Income-tax Act, 1961 (“IT Act”), or as capital gains under section 45.

The ITAT held that the consideration was taxable as long-term capital gains, not as a salary perquisite. The decision turns on a fundamental distinction: vesting is not the same as exercise. Until an option is exercised and the underlying shares are allotted or transferred, the employee holds aright to acquire shares, not the shares themselves. The Tribunal held that this right is itself a capital asset and that its repurchase and extinguishment constitute a transfer capable of giving rise to capital gains, rather than salary income.

Background and Issue

The assessee was an employee of Flipkart Internet Private Limited (“FIPL”),an Indian company forming part of a corporate chain in which FIPL was a step-down subsidiary of Flipkart Private Limited, Singapore (“FKS”). Under the Flipkart Stock Option Scheme, 2012 (“FSOP 2012”), FKS granted the assessee stock options across multiple financial years (FY 2015-16 to FY 2019-20),aggregating 40,536 options. Pursuant to Letters of Offer dated 18 August 2019and 18 September 2019, FKS repurchased 2,653 of the assessee’s vested optionsfor consideration of INR 2,33,80,616. It was undisputed that none of the repurchased options had ever been exercised, and no shares had at any point been allotted or transferred to the assessee; the Tribunal noted that, because FKS’s shares were not listed on any recognised stock exchange, the assessee could never exercise the vested options.

The assessee offered the income arising from the repurchase of the vested options under the head ‘Capital Gains’ and reported total long-term capital gains of INR 2,43,54,073. The return came under scrutiny after the CBDT’s e-Verification Scheme flagged that this income appeared to have been offered to tax at 20% instead of the assessee’s applicable 30% slab rate, prompting reassessment proceedings under section 148A/148. The Assessing Officer, relying on Form 16 (which characterised the amount as a section 17(2) perquisite) and on indicative tax language in the repurchase offer letters, brought the entire consideration to tax as salary. The CIT upheld this, additionally reasoning that since the options originated from the assessee’s employment with FIPL, an employer-employee nexus existed and the amount was accordingly a perquisite.(The Tribunal, as discussed below, ultimately did not need to resolve the employer-employee relationship question, since it disposed of the perquisite issue on an independent and more fundamental ground.)

The question before the ITAT was thus whether the repurchase consideration represented:

(i) an employment-related perquisite taxable under section 17(2)(vi); or

(ii) consideration for the transfer of a capital asset, taxable as capital gains under section 45.

The ITAT’s Analysis

1. Unexercised options does not constitute perquisite

Section 17(2)(vi) treats as a perquisite the value of “specified security”allotted or transferred by an employer, free of cost or at a concessional rate.Critically, Explanation (a) to the provision defines “specified security” to include securities offered under an ESOP plan, but Explanation (c) fixes the taxable value by reference to the fair market value of the security on the date the option is exercised, less any amount paid by the employee.

The Tribunal read this valuation mechanism as integral to the charge itself: until the option is exercised and the relevant security is allotted or transferred, the taxability of the ESOP perquisite under section 17(2)(vi) does not arise. Applying the Supreme Court’s principle in CIT v. B.C. Srinivasa Setty [1981] 128 ITR 294 (SC) that the charging provision and the computation provision form an integrated code, the Tribunal reasoned that, in a case where the computation provisions cannot apply, such a case would not fall within the charging section.

2. A vested, unexercised option is a capital asset

Then, the Tribunal turned to the character of the right the assessee actually surrendered. “Capital asset” is defined broadly in section 2(14) as property of any kind. The Tribunal noted that Explanation 1(e) to section2(42A), which deals with computation of the holding period, expressly contemplates “a capital asset, being the right to subscribe to any financial asset”, confirming that such a right is treated by the statute itself as a kind of capital asset.

On this footing, the Tribunal relied on the Supreme Court’s decision in Dhun Dadabhoy Kapadia v. CIT, (1967) 63 ITR 651, which recognised the right to subscribe for additional shares as a capital asset, and on the jurisdictional Karnataka High Court’s decision in Chittharanjan A.Dasannacharya v. DCIT, (2020) 429 ITR 570: 2020 SCC OnLine Kar 3442, which heldin terms that a stock option, being a right to purchase the shares, is acapital asset under section 2(14). Applying this reasoning, the Tribunal held that the assessee’s vested options constituted a capital asset. This is a significant move in analysing the options: it treats the option as a distinct property from the share, acknowledging  that each are capable of being a capital asset in its own right.

3. Repurchase constitutes a “transfer” under section 2(47)

Tribunal further held that FKS’s repurchase, under which the assessee gave up his right to exercise the options and acquire the underlying shares in exchange for consideration, amounted to a sale or relinquishment of that asset,and thus a “transfer” within section 2(47). The gain from such sale or relinquishment was accordingly chargeable under section 45, and the Tribunal accepted the assessee’s assertion of the gain as long term capital gains.

The Tribunal also clarified that this outcome is confined to the unexercised option; had the options been exercised and shares allotted, the perquisite charge under section 17(2)(vi) would be applicable on exercise, with any subsequent sale of the shares separately taxable as capital gains.

4. Form 16 and TDS treatment were not determinative

The Revenue placed considerable weight on the employer’s Form 16 characterising the payment as a section 17(2) perquisite, on TDS deducted under section 192, and on Schedule 4 of the repurchase offer letters stating that the payment would be taxed as salary. However, the Tribunal held that neither the tax treatment described in the repurchase documentation nor the characterisation in Form 16 and the deduction of TDS could conclusively determine the taxability of the payment. The Tribunal also observed that taxability must be determined by reference to the applicable statutory provisions rather than by contractual labels or payroll treatment.

5. Distinction between divestment and transfer of option rights

The Revenue relied on the Madras High Court’s decision in Nishithkumar Mukeshkumar Mehta v. DCIT, (2025) 475 ITR 614: 2024 SCC OnLine Mad 8414, where compensation received by another employees of Flipkart in connection with the divestment of the PhonePe business was held taxable as salary. The Tribunal distinguished this on facts: critically, the taxpayer in that case retained allof his stock options even after receiving the payment; there was no transfer or extinguishment of any option rights, and the payment was collateral compensation unconnected to any surrender of the underlying asset. By contrast,in the present case, consideration was paid specifically for the repurchase and extinguishment of the assessee’s option rights. The distinction confirms that the tax treatment of an ESOP-linked payment cannot be determined merely by its connection with employment or by the label attached to it, the operative question is what right the employee held, and what, if anything, was given up in exchange for the payment.

Practical Implications

The central contribution of this decision is its clear articulation that vesting and exercise are legally distinct events with different tax consequences. A vested option may confer real economic value on an employee without resulting in acquisition of the underlying shares or constituting a perquisite under section 17(2)(vi). Where that right is instead surrendered for consideration before exercise, the transaction may properly fall to be taxed as a transfer of a capital asset rather than as employment income.

For employees, the practical effect is that consideration received on repurchase of unexercised options is, on facts of this kind, taxable at capital gains rates rather than salary slab rates, which is a materially lower tax burden.

For companies, this suggests a meaningful strategic upside. Because unexercised-option repurchases may now attract capital gains rates rather than salary slab rates, the value delivered to an employee for the same is materially higher, without any corresponding increase in cost to the company.For startups and growth-stage companies that rely on ESOPs to provide incentives to the employees, this materially improves the attractiveness of the ESOP as a retention tool: the same budget delivers more net value to employees,becoming a more compelling employee incentive plan. The ruling should not therefore be read as a constraint on ESOP buyback programmes, but as a decision distinguishing clearly between repurchase of unexercised options, exercise followed by sale of shares, and repurchase of shares already held.

Conclusion

The ITAT ruling on Pramod Kumar Jain case offers a carefully reasoned framework for taxing consideration received on repurchase of vested but unexercised ESOPs. Its central proposition, that a vested option and an exercised option are legally distinct, and that the vested option may itself constitute capital asset under section 2(14).

The decision does not suggest that every ESOP-related payment will qualify for capital gains treatment; its reasoning is closely tied to the fact that a vested right was extinguished in exchange for consideration, without any exercise or allotment of shares having occurred. Nevertheless, it provides a significant basis for ESOP repurchases and liquidity arrangements, confirming that taxability must follow the legal nature of the right actually transferred,rather than the employment relationship from which that right originates.

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