Perquisite tax on ESOP exercise

Under Section 17(2) of the Income Tax Act, the difference between the fair market value of a share on the date of exercise and the exercise price the employee pays is treated as a perquisite — taxable as salary income in that financial year, not deferred to when the shares are eventually sold. The employer must deduct TDS on this spread at the time of exercise, under the same withholding obligations that apply to any other salary component.

Fair market value for an unlisted company's shares at exercise is determined by a valuation report from a SEBI-registered Category I merchant banker — a Chartered Accountant's valuation does not satisfy the requirement for this specific purpose, even though CA valuations are used elsewhere (audit, Rule 11UA in some contexts). A merchant banker report dated too far before the exercise date is treated as stale and a fresh one is commissioned; Saral blocks an exercise from proceeding without a valid, dated report on file.

A separate, later capital gains tax applies when the employee eventually sells the shares, computed on the difference between sale price and the fair market value already taxed as perquisite at exercise — so the same appreciation is never taxed twice, but the two tax events are calculated differently and at different times.

The cap table, where Perquisite tax on ESOP exercise appears as a computed field traced to the ledger event that created it.