In the past month, as part of our ongoing series on the impact of US taxes on Indian Americans, we have covered how foreign income is taxed in the US. We have seen that according to the US IRS, if you are a citizen, green card holder or a resident of the US, you must pay taxes in the US on your global income. In case you have paid taxes in the foreign country, you may be eligible to claim a tax credit on that income in the US.In this article, we take a look at foreign ESOPs or Employee Stock Option Plans. There are two instances of taxation on ESOPs:
- At the time of exercising the option
- At the time of selling the exercised shares
At the time of exercising the option
Tax in India
Let's make it easier with an example. Vijay Hegde is a 35 year old sales professional with one of India's top technology companies. In 2010, after working in the company's Mumbai office for 5 years, he got an opportunity to move to the US branch. As a senior employee of the company, he regularly gets ESOPs in the form of the company's shares listed on the Indian stock exchange. On 1st April 2011, his ESOP of 100 shares got vested and he exercised the same at a price of Rs 100 per share. The market price, termed fair market value, as on that date was Rs 300 per share. His perquisite value for income tax purposes in India was Rs 200 per share, that is, Rs 20,000 in total. Since Vijay was in the highest tax bracket, he paid tax at the rate of 30.9%, that is, Rs 6,180.
Tax in the US
As per the US tax code, any person who is a resident or a citizen of the US must pay taxes in the US on his global income. In the US too, just like in India, the value of ESOPs granted is taxed at the time when the employee exercises the option.
Since Vijay was a resident of the US in 2011, he is liable to pay taxes on his global income in the US, and this includes the perquisite value of his India ESOPs. The IRS prescribes an average exchange rate that maybe used for conversion purposes. As per the prescribed rate, the ESOP perquisite value of Rs 20,000 would work out to USD 408.
Sanjiv Gupta, a CPA based in Fremont, California says, "Vijay must add the total value of his ESOP compensation (USD 408) to his total income in the US. He can disclose this as other income in his Form 1040. Since he has paid tax in India on this income, he will be eligible to claim a tax credit in his US tax return. He can claim the credit using Form 1116."
Vijay can therefore claim a tax credit of up to USD 126 (Rs 6,180 converted at the rate of Rs 49).
Having said that, there are certain limitations on the amount of credit that you can claim. For instance, the India tax credit you claim cannot be more than the tax payable in the US on your India income. Your CPA will be able to help you with this.
At the time of selling the exercised shares- At the time of exercising the option
- At the time of selling the exercised shares
At the time of exercising the option
Tax in India
Let's make it easier with an example. Vijay Hegde is a 35 year old sales professional with one of India's top technology companies. In 2010, after working in the company's Mumbai office for 5 years, he got an opportunity to move to the US branch. As a senior employee of the company, he regularly gets ESOPs in the form of the company's shares listed on the Indian stock exchange. On 1st April 2011, his ESOP of 100 shares got vested and he exercised the same at a price of Rs 100 per share. The market price, termed fair market value, as on that date was Rs 300 per share. His perquisite value for income tax purposes in India was Rs 200 per share, that is, Rs 20,000 in total. Since Vijay was in the highest tax bracket, he paid tax at the rate of 30.9%, that is, Rs 6,180.
Tax in the US
As per the US tax code, any person who is a resident or a citizen of the US must pay taxes in the US on his global income. In the US too, just like in India, the value of ESOPs granted is taxed at the time when the employee exercises the option.
Since Vijay was a resident of the US in 2011, he is liable to pay taxes on his global income in the US, and this includes the perquisite value of his India ESOPs. The IRS prescribes an average exchange rate that maybe used for conversion purposes. As per the prescribed rate, the ESOP perquisite value of Rs 20,000 would work out to USD 408.
Sanjiv Gupta, a CPA based in Fremont, California says, "Vijay must add the total value of his ESOP compensation (USD 408) to his total income in the US. He can disclose this as other income in his Form 1040. Since he has paid tax in India on this income, he will be eligible to claim a tax credit in his US tax return. He can claim the credit using Form 1116."
Vijay can therefore claim a tax credit of up to USD 126 (Rs 6,180 converted at the rate of Rs 49).
Having said that, there are certain limitations on the amount of credit that you can claim. For instance, the India tax credit you claim cannot be more than the tax payable in the US on your India income. Your CPA will be able to help you with this.
Tax in India
In India, capital gain on ESOPs is calculated by arriving at the difference between the sale value and the market value as on the date of exercising the ESOP. Suppose Vijay sold his shares at Rs 400 per share, his capital gain per share would be Rs 100 (that is, Rs 400 minus Rs 300). The logic being that the employee has already paid the tax on the difference between the exercise price and the market value as on date of exercise so he must now pay tax only on the excess.
In India, if a share is sold after one year of purchase, there is no long term capital gains tax. If it is sold within a year, short term capital gains tax of 15% is levied.
Tax in the US
The method of calculating capital gains is the same in the US as in India. However, the key difference is that long term capital gains are not exempt from tax in the US.
"So if Vijay sells his shares after holding them for one year, while he might not pay any taxes in India, he would have to pay taxes on those gains in the US," Gupta explains. Vijay would thus have to disclose this capital gain in Schedule D of his Form 1040. In case of short term capital gains tax, Vijay can claim a credit of tax paid in India in his US tax return.