Case: COMMISSIONER OF INCOME TAX, BANGALORE Vs. INFOSYS TECHNOLOGIES LTD

2. Respondent-assessee is public limited IT company based in Bangalore. To implement Employees Stock Option Scheme (ESOP), the assessee created a Trust known as Technologies Employees Welfare Trust and allotted 7,50,000 warrants at Re. 1/- each to the said Trust. Each warrant entitled the Holder thereof to apply for and be allotted one equity share of the face value of Rs.10/- each for total consideration of Rs.100/-. The Trust was to hold the warrant and transfer the same to the employees of the company under the Terms and Conditions of the scheme governing ESOP. During the assessment years 1997-98, 1998-99 and 1999-2000, warrants were offered to the eligible employees at Re. 1/- each by the Trust. They were issued to employees based on their performance, security and other criteria. Under the ESOP Scheme, every warrant had to be retained for a minimum period of 1 year. At the end of that period, the employee was entitled to elect and obtain shares allotted to him on payment of the balance Rs.99. The option could be exercised at any time after 12 months but before expiry of the period of 5 years. The allotted shares were subject to a lock in period. During the lock in period, the custody of shares remained with the Trust. The shares were non-transferable. The employee had to continue to be in service for 5 years. If he resigned or if his services be terminated for any reason, he lost his right under the scheme and the shares were to be re-transferred to the Trust for Rs. 100 per share. Intimation was also given to BSE that 734500 equity shares were non-transferable and would not constitute good delivery. Till 13.9.1999 all the shares were stamped with the remark non-transferable. Thus the said shares were incapable of being converted into money during the lock in period.  3. For the assessment year 1999-2000, the AO held that the total amount paid by the employees consequent to the exercise of option was Rs. 6.64 crores whereas the market value of those shares was Rs. 171 crores. He held that the perquisite value was the difference between the market value and the price paid by the employees for exercise of the option. He, therefore, treated Rs. 165 crores as perquisite value on which TDS was charged at 30%. It was held that the respondent-assessee was a defaulter for not deducting TDS under Section 192 amounting to Rs. 49.52 crores on the above perquisite value of Rs. 165 crores. Similar orders were also passed by the AO for assessment years 1997-98 and 1998-99. These orders were confirmed by CIT(A). No weightage was given by both the authorities to the lock in period. Both the authorities took into account the perquisite value as on the date of exercise of option.  4. Aggrieved by the aforesaid decisions, the respondent-assessee carried the matter in appeal to the Tribunal, which took the view that the right granted to the employee for participating in the scheme was not a perquisite under Section 17(2)(iii) of the Income Tax Act, 1961 (1961 Act). This decision of the Tribunal stood confirmed by the impugned judgment delivered by the Karnataka High Court on 15.12.2006. Hence, these civil appeals by the Department.

Reasoning: 11. Warrant is a right without obligation to buy. Therefore, perquisite cannot be said to accrue at the time when warrants were granted in this case. Same would be the position when options vested in the employees after lapse of 12 months. It is important to note that in this case options were exercisable only after the cooling period of 12 months. Further, it was open to the employees not to avail of the benefit of option. It was open to the employees to resign. There was no certainty that the option would be exercised. Further, the shares were not transferable for 5 years (lock-in period). If an employee resigned during the lock-in period the shares had to be retransferred. During the lock-in period, the possession of the shares, which is an important ingredient of shares, remained with the Trust. The Stock Exchange was duly notified about non-transferability of the shares during the lock-in period. The shares were stamped with the remark non-transferable during the lock-in period. It was not open to the employees to hypothecate or pledge the said shares during the lock-in period. During the said period, the said shares have no realisable value, hence, there was no cash in flow to the employees on account of mere exercise of options. On the date when the options were exercised, it was not possible for the employees to foresee the future market value of the shares. Therefore, in our view, the benefit, if any, which arose on the date when the option stood exercised was only a notional benefit whose value was unascertainable. Therefore, in our view, the Department had erred in treating Rs. 165 crores as perquisite value being the difference in the market value of shares on the date of exercise of option and the total amount paid by the employees consequent upon exercise of the said options12. We also do not find merit in the contention advanced on behalf of the Department that Section 17(2)(iiia) inserted by Finance Act, 1999 w.e.f. 1.4.2000 was clarificatory and, therefore, retrospective in natureIn our view, it is not so. Unless the benefit is made taxable, it cannot be regarded as income. During the relevant assessment years, there was no provision in law which made such benefit taxable as income. Further, as stated, the benefit was prospective. Unless a benefit is in the nature of income or specifically included by the Legislature as part of income, the same is not taxable. In this case, the shares could not be obtained by the employees till the lock-in period was over. On facts, we hold that in the absence of legislative mandate a potential benefit could not be considered as income of the employee(s) chargeable under the head salaries. The stock was non-transferable and the stock exchange was also accordingly notified. This is where the weightage ought to have been given by the AO to an important factor, namely, lock in period. This has not been done. It is important to bear in mind that if the shares allotted to the employee had no realizable sale value on the day when he exercised his option then there was no cash inflow to the employee. It was not possible for the employee to know the future value of the shares allotted to him on the day he exercises his option. Even the cost of acquisition as nil came to be introduced in the 1961 Act by the Finance Act, 1999 only with effect from 1.4.2000. In fact, the later deletion of clause (iiia) is an indicator of the Ineffective Charge17. For the aforestated reasons, we are of the view that the Department had erred in treating Rs. 165 crores as a perquisite value for the assessment years 1997-98, 1998-99 and 1999-2000. During those years, the fifth anniversary had not taken place and, therefore, it was not possible for the assessee company to estimate the value of the perquisite during that period. It was not open to the Department to ignore the lock in period. Therefore, the Department had erred in treating the respondent herein as an assessee in default for not deducting the TDS at 30% as stated in the order of assessment. This is not the case of tax evasion. The assessee had floated the Trust because of the buy back problems, which were genuine problems in cases where the employees stood dismissed, removed or in the case of resignation in which cases they were required to return the allotment18. Estimation of TDS under Section 192 in the absence of clear provisions on valuation of perquisite in this case would not justify the Department in treating the respondent as assessee in default. Therefore, in our view, the AO and the CIT(A) had erred in treating the respondent as defaulter for not deducting TDS under Section 192. Consequently, Section 201(1) and 201(1A) were also not applicable to the facts of this case and that the Department had erred in invoking the said two sections against the assessee