When Mr Hemrajani from Bandra, East Mumbai was working for L&T Infotech’s United Kingdom (UK) branch in AY 2019-2020 he exercised his Employee Stock Option Plans (ESOPs) and was allotted 1,540 shares at an exercise price of Re 1 per share. However, the fair market value (FMV) of these shares was Rs 1,754 per share. So he sold the said 1,540 shares on different dates for an aggregate sale consideration of Rs 25.99 lakh.
So, the situation as it unfolded is Hemrajani, a non-resident Indian while working for L&T Infotech in United Kingdom got the option to acquire L&T infotech’s listed equity shares at Re 1 each via his company’s ESOP program and so he used the option to make Rs 25.99 lakh money.
However, the Income Tax Department's risk management strategy system flagged this sale and also the fact that Hemrajani had not filed any income tax return (ITR) for AY 2018-19 (the earlier year)
Based on the details/information available in the system regarding a financial transaction entered into by Hemrajani related for foreign purchase of currency of Rs 26.89 lakh [1.1]his case was reopened as per explanation 1 to Section 148. The Income Tax Department was of the opinion that the information suggests that income chargeable to tax represented in the form of an asset escaped assessment for the purposes of Section 148 and 148A.
Hemrajani pleaded that he did not file any ITR as he was unaware about the requirements to file it in India. He also said that he was not aware about the legal provisions regarding ITR filing and tax payment in India and he had no intention of avoiding or evading the taxes in India by not disclosing the income in India.
Regarding the sale of 1540 shares of L&T Infotech, Hemrajani said that he had adopted the fair market value of Rs 1,754 per share as on the date of exercise of the ESOPs as the cost of acquisition in terms of Section 49(2AA) of the Income-tax Act, 1961 and accordingly computed a short-term capital loss of Rs 1 lakh.
Also read: Employee fined Rs 10 lakh over lack of ESOP disclosure in ITR; here's why ITAT Chennai cancelled it
When the Income Tax Assessing Officer (AO) got to know about Hemrajani’s fair market value calculation, it became the primary cause of dispute and so the AO asked Hemrajani to explain his rationale.
Hemrajani explained to the AO and said that the the entire sale consideration realised on transfer of the shares inherently included the value which had already suffered tax as a perquisite in the United Kingdom and, therefore, taxing the same again in India without allowing such value as the cost of acquisition would amount to double taxation of the same economic benefit.
Accordingly Hemrajani contended that denial of such benefit solely because the perquisite had been taxed in the United Kingdom instead of India would result in discriminatory treatment and would be contrary to the non-discrimination provisions contained in Article 26 of the India–UK Double Taxation Avoidance Agreement.
The AO cited multiple judicial decisions and said that he did not agree with Hmerajani and thus proposed an addition of Rs 25.98 lakh as short term capital gains against the short term capital loss of Rs 1 lakh offered by Hemrajani. The Dispute Resolution Panel (DRP) confirmed the AO’s action and thus on receipt of the DRP directions, the AO made additions of the share sale income as unexplained short term capital gains.
Feeling aggrieved, Hemrajani filed an appeal in Income Tax Appellate Tribunal (ITAT) Mumbai. Chartered Accountant Dhruv Janssen represented him in ITAT Mumbai. Smt. Beena Pillai, Judicial Member and Shri. Arun Khodpia, Accountant Member of ITAT Mumbai heard his case on May 13, 2026 and passed the judgement on July 31, 2026.
Also read: Unexercised ESOP buyback gains taxable as LTCG, not salary income: ITAT
In short, ITAT Mumbai did not sustain the Rs 29.59 lakh unexplained short term capital gains addition and ordered the AO to recompute Hemrajani’s capital gains under the ESOP shares' FMV as the cost of acquisition. The ITAT Mumbai did not, however, give a separate conclusive ruling on Hemrajani’s argument about Article 26 India-UK DTAA non-discrimination argument because the tax tribunal had already decided the case under Section 49(2AA).
Read below to know how the employee won the case.
Summary of the judgment
Chartered Accountant Suresh Surana said to ET Wealth Online : In this case [ITA No. 1284/Mum/2025, AY 2019-20], the Mumbai Bench of the Income Tax Appellate Tribunal examined whether the fair market value of shares acquired through the exercise of Employee Stock Options (ESOPs) could be adopted as their cost of acquisition under section 49(2AA) of the Income-tax Act, 1961, even though the related perquisite was not taxable in India.
The taxpayer (Hemrajani) was an individual residing in the United Kingdom and employed with the UK branch of L&T Infotech Limited. As part of his remuneration package, he was granted 7,700 ESOPs in respect of shares of L&T Infotech Limited, an Indian listed company. During the relevant year, Hemrajani exercised the first tranche comprising 1,540 options at an exercise price of Re. 1 per share.
The fair market value of the shares on the exercise date, determined under section 17(2)(vi) read with Rule 3(8)(ii) of the Income-tax Rules, was approximately Rs 1,753.58 per share. Hemrajani subsequently sold the 1,540 shares through a recognised stock exchange for an aggregate consideration of approximately Rs 26 lakh.
While computing capital gains, Hemrajani adopted the fair market value on the exercise date as the cost of acquisition under section 49(2AA) and accordingly reported a short-term capital loss of Rs 1,00,650. The difference between the fair market value and the exercise price had been subjected to tax as an employment perquisite in the United Kingdom.
The Indian Income Tax Assessing Officer denied the benefit of section 49(2AA). According to the Assessing Officer, since the ESOP perquisite related to services rendered outside India and was not taxable in India under sections 5 and 9 or the India-UK DTAA, the shares could not be regarded as having given rise to a taxable perquisite in India for the purpose of section 17(2)(vi).
Consequently, the cost of acquisition was restricted to the actual exercise price of Re 1 per share. The Dispute Resolution Panel upheld this approach, principally on the ground that the perquisite had not suffered tax in India.
The tax tribunal disagreed with the tax authorities and held that section 49(2AA) specifically departs from the general rule of actual cost in the case of specified securities or sweat equity shares acquired under an ESOP.
Surana says that under this provision, the cost of acquisition is the fair market value that has been taken into account for valuing the perquisite under section 17(2)(vi). Therefore, the actual amount paid by the employee (Hemrajani) to exercise the options does not, by itself, determine the cost of acquisition.
The tax tribunal emphasised that Section 49(2AA) uses the expression “fair market value which has been taken into account for the purposes of section 17(2)(vi).”
Surana says that for the purpose of this section, it does not require that the perquisite must actually have been taxed in India or included in Hemrajani’s Indian total income. The expression merely requires the fair market value to be determined under the statutory valuation mechanism contained in Section 17(2)(vi) read with Rule 3.
The valuation of the perquisite and its ultimate chargeability to tax are separate matters governed by different provisions. The tax tribunal further observed that making the benefit of Section 49(2AA) dependent upon the country in which the perquisite was taxed would introduce an additional condition that Parliament had not incorporated.
Such a condition could not be read into an otherwise clear statutory provision. The decisions relied upon by the Income Tax Department primarily concerned the taxability of salary or perquisites in the hands of non-residents and did not directly address the determination of the cost of ESOP shares under section 49(2AA). They were therefore held to be distinguishable.
Accordingly, the tax tribunal held that Hemrajani was entitled to adopt the fair market value of the shares on the exercise date as their cost of acquisition, irrespective of whether the related perquisite was taxable in India.
The Assessing Officer was directed to recompute the capital gains by applying section 49(2AA), and Hemrajani’s appeal was allowed. Since relief was granted on the plain interpretation of the statutory provision, the tax tribunal did not consider it necessary to conclusively decide the taxpayer’s alternative argument based on the non-discrimination clause in Article 26 of the India-UK DTAA.
