The year 2023 has been a special year for Initial Public Offerings (IPO) in India as activity slowed in other major markets across the globe.  India has seen a surge in IPOs, as more and more companies including starts ups are raising capital from the primary market. A company may choose to structure the IPO as (i) a fresh issue, (ii) an Offer for Sale (OFS), in which existing shareholders sell a portion of their existing shareholding in the company to the public, or (iii) a combination of a fresh issue and an OFS. OFS offers an exit for early investors in the company.  Also, generally post the IPO, the employees also get an opportunity to liquidate the shares allotted to them by the companies against the Employee Stock Option Plans (ESOP).

During the course of IPO, the companies avail services of various merchant bankers, brokers, legal counsel, auditors and marketing experts, for technical advisory, due diligence, execution of agreements, filing prospectus with SEBI, newspaper publications, public announcements, underwriting agreements, etc.

The objective of this article is to understand the issues that may arise while taking input tax credit (ITC) under GST and to understand if such expenditure is eligible for deduction under the Income Tax (IT) Act, 1962. Also, the author wishes to highlight certain issues which arise under the GST & IT Act as regards the issuance of shares to the employees under ESOP.

Eligibility of benefit under the GST Act

Under GST, the issue to be considered is whether tax paid in the form of GST on various expenses such as legal fees, listing fees, corporate advertisements etc. is eligible for taking ITC on the ground that these expenditures are incurred in the course or furtherance of business. The question requires further examination where a part of such expenses is incurred by a company on behalf of the selling shareholders in terms of Section 2(83) of the Companies Act, 1956.

There is no iota of doubt that expenses incurred for the issuance of an IPO are for the purpose of raising capital which would be used for the purpose of conducting business. Hence, on the skim view, it can be said that under Sec 16 of the Central Goods and Services (CGST) Act, 2017, ITC should be available to a company.

However, it is to be noted that the securities are excluded from the definition of goods and services under the CGST Act. Further, Section 17(3) of the CGST Act, explicitly disallows any ITC on ‘transaction in securities’ on account of being an exempt supply. Further, Rule 42 of CGST Rules provides that in case of exempt supply, the ITC to the extent of such exempt supply is required to be reversed.

Since IPO expenses are directly relatable to the issuance of securities, which is excluded from the definition of goods as well services under the CGST Act, the eligibility of the credit needs to be tested under Sec 17 of the CGST Act.

This quandary continues or rather increases if the IPO turns out to be unsuccessful and the efforts of the companies and selling shareholders go in vain. In this scenario, can it be argued that the company has not engaged in transactions of securities per se as the securities never got issued. Infact, the real question is whether the said expenditure can be said to be incurred in the course or furtherance of business as such IPO never really materialized for company to deploy funds in the business of the company.

To answer all these questions, one need to critically examine the scope of the expression ‘in the course or furtherance of business’, as interpreted by Indian & foreign Courts[1] . The courts have interpreted the scope to be very wide to include those supplies which have a direct and immediate link with the whole economic activity of the taxable person.

Further, it is possible to take a view that the expression ‘transaction in securities’, will not cover situations where capital is being raised by the company against issuance of securities and will cover only those transactions which result in sale, transfer, or disposal of existing securities[2].

Now another issue which the author foresees in an IPO is the allotment of shares to the employees as part of ESOPs. Whether such issuance of shares to the employees as consideration for their services can be said to be in the nature of taxable supply and thus, chargeable to GST. Here again, the companies need to analyze the nature of supply given that securities are cast out by the definition of goods as well as services under the CGST Act.    

On a closer look at the queries surrounding IPO, it becomes pertinent for the companies to deeply analyze the nature of the underlying transaction and accordingly, take legal positions to avoid any potential disputes with the GST Authorities. 

Deduction under the Income Tax Act

The Hon’ble Supreme Court[3] has categorically held that expenses incurred for public issues or for raising share capital by a company are always capital in nature. Therefore, the deduction of the same cannot be claimed by the company under the principles enriched in section 37 of the Income Tax Act, 1961 (IT Act).

Therefore, one need to examine whether the expenses incurred on issuance of an IPO for raising capital can be covered within the scope of Section 35D of the IT Act, if the proceedings of IPO are utilized for the ‘extension’ of business. This requires detailed analysis of the objects declared in the prospectus filed by the company, which outlines the proposed manner of utilization of the proceeds of IPO.

Further, it is to be noted that sub-Section (2)(c) of Section 35D provides for the deduction of certain specific expenses such as underwriting commission, brokerage, printing of prospectus etc. incurred in connection with the issue for public subscription. There are conflicting views of various HCs[4] and tribunals on the scope of expenditure allowable under sub-clause (iv) of Section 35D(2)(c). Therefore, it is open to interpretation whether all expenses incurred in relation to IPO can be said to be covered within the scope of Sec 35(D)(2)(c) or the scope is restricted to the expenses mentioned therein.

Now coming to ESOPs, under Section 17(2)(vi) of the IT Act, the discount on ESOPs is considered a perquisite in the hands of employees, and thus, the difference between the exercise price and the fair market value (FMV) of the shares on the date of exercise is subjected to tax.

As a consequence of the above taxation, one needs to understand whether such a discount is eligible for deduction in the hands of the company under the IT Act. The Courts[5] have allowed deduction towards ESOPs discount under section 37 over the period of vesting, which is determined on the date of grant, using scientific methods such as Black Scholes Method as prescribed by ICAI.

However, another aspect to be noted here is that there can be a situation where the FMV of the shares on the date of the exercise is higher than the FMV on the date of grant basis which deduction was claimed by the company in previous financial years. In such a case, whether the company can claim additional deduction in the year of exercise basis the FMV on the date of exercise of option by the employees, especially in view of the fact that perquisite in hands of the employee is calculated with reference to the FMV on the date of exercise.  

In this regard, the Special Bench of the Tribunal [6]has allowed the additional deduction of discount basis the FMV on the date of exercise of ESOPs by the employees. One of the reasoning adopted by the Tribunal was that although the stage of taxability of perquisite in the hands of the employee may differ from the stage of the deductibility of expense in the hands of the company depending upon the method of account followed by the company, but the amount of such discount or employee’s remuneration can never be different. Though the said ruling has been upheld by the Karnataka High Court, and the issue is presently pending adjudication before the Apex Court.

Considering the fact that the expenditure is accounted in the books on the date of receipt of services basis FMV on the date of grant, and the cost in the hands of the company is fixed and cannot be varied subsequently in terms of the ICAI guidelines, there can be dispute on further deduction to be claimed by the company without corresponding debit to profit & loss account. Hence the issue requires deeper analysis to take an informed position on the matter.


Thus, in the author’s view, the task of concluding correct legal position on various issues surrounding the issuance of shares under IPOs and ESOPs is nothing less than an Achilles’ heel for the assessee as well as authorities. There lies a long road ahead for authorities as well as the judiciary to settle the aforementioned issues in cases of issuance of IPOs and ESOPs.


[1] Coca Cola India Pvt. Ltd. v. Commissioner of C. Ex., Pune-III, 2009 (15) S.T.R. 657 (Bom.)

Kernex Microsystems v. Commissioner of Customs, 2015 (6) TMI 194 – CESTAT BANGALORE, Kretztechnik AG vs. Finanzamt Linz (C-465/03).

[2] Circular No. 119/38/2019-GST, dated 11-10-2019

[3] Brooke Bond India Ltd. v. CIT [1997] 225 ITR 798/91 Taxman 26 (SC)

[4] CIT v. Ashok Leyland Ltd. [2012] 349 ITR 663 (Mad)

CIT v. Shree Synthetics Ltd. [1986] 162 ITR 819 (Madhya Pradesh) 

[5] Biocon Ltd. Vs. DCIT (KAR,)[2021] 430 ITR 151

[6] Biocon Ltd., 2013 (8) TMI 629

Preeti Goyal

Lakshmikumaran & Sridharan

Neha Jain
Senior Associate

Lakshmikumaran & Sridharan