What are ESOPs?
Employee Stock Ownership Plan also commonly known as ESOP, is a skillful and well-defined plan that is meant to provide the advantage to both the employee as well as the employer, in which an employee mainly invests in the stock of the sponsoring company.
The main motive of the Employee Stock Option Plan is not only to maintain the focus of the employees on their company’s overall performance but also to contribute maximum in share price gain. By providing employees with an interest in company’s performance, an organization believes that it would surely be able to encourage participants to give their best for the company as well as its shareholders, just because they themselves have become shareholders now.
As per these plans, the business provides definite shares of the organization to the representative at a lesser cost which stays in the ESOP trust funds, until the point when the alternatives vests and the worker practices them or the worker leaves/resigns from the organization or foundation.
How does ESOP work?
An organization in which an employee is working provides an opportunity to that employee to purchase a pre-fixed number of shares of the company at an amount that is lower than the market value and then vest it after a certain number of years, known as option period.
What do you mean by ‘Grant’ and ‘Vesting’ of the ESOP option?
Grant of the ESOP applies to the assurance that an employer makes by informing the employee of the eligibility of the available options. Vesting of the ESOP refers to providing the right to the employee to own certain shares over the period of the time.
Eligibility criteria to be a part of ESOP:
Even though each organization has its own purpose of issuing ESOPs, still certain employees are
not provided this opportunity under the scheme:
- Any promoter or the person who belongs to the promoter group
- Any director, (either himself or any of his relatives) if in case he holds more than 10% of the
outstanding equity shares under his name.
Read Also: Key Features of an ESOP Scheme
The various option plan available for the Employees:
Although they are multiple plans available, a few notable ones are :
- ESP( Employee Stock Purchase)
- SARs(Stock Appreciation Rights)
- ESOS ( Employee Stock Option Scheme)
- ISO(Incentive Stock Option)
- RSA( Restricted Stock Award)
- RSU( Restricted Stock Unit)
The selection criteria depend entirely on what is the objective with which the ESOP plan is being
implemented. For example, if in case the objective of the organization is to reduce attrition rate, they
would keep vesting period longer than normal.
The legal compliance to be taken care for implementing of ESOP schemes:
Even the minutest thing in an organization has some laws that need to be followed, same goes for ESOP schemes. The various legal compliances to be taken care of while implementation of ESOP scheme is as follows:
- Companies Act
- Income Tax Act
- SEBI (ESOP Guidelines)
- Accounting Guidelines (ICAI, IFRS, US GAAP)
- FEMA
Read Also: ESOP Valuation: Everything You Need to Know
Drawbacks
As promising and attractive as these tax cuts may seem, there are breaking points as well as disadvantages.
The law does not allow ESOPs to be used in organizations as well as many expert companies. ESOPs can be used in S enterprises, however, organizations that do not meet all requirements needed for the rollover treatment talked about above and have lower commitment limits.
The privately owned businesses must repurchase stocks of workers who are withdrawing themselves from the organization, and this can turn into a noteworthy cost. The cost of setting up an ESOP is likewise significant—can be $40,000 for the least complex of plans in little organizations and on up from that point. Whenever new esop shares are issued, the load of existing proprietors is weakened.