Tag: ESOP

RSU vs ESOP vs Sweat Equity Shares: Differences and Tax Treatment (2026-27)

Posted on by CA Meet Dhrangadhariya

Last updated: 18 August 2026 · Written and reviewed by CA Meet Dhrangadhariya, CSM & Co LLP

Quick summary

  • An ESOP is a right to buy shares at a fixed price; an RSU is a promise of shares for no payment once vesting conditions are met; sweat equity shares are issued at a discount or for know-how or similar value.
  • All three are taxed the same way under section 17(1)(d): fair market value on allotment less what you paid is a perquisite taxed as salary.
  • After that, the FMV becomes your cost of acquisition and the holding period runs from allotment; long-term gains on unlisted and foreign shares are taxed at 12.5% without indexation.
  • Company law differs: sweat equity is locked in for three years and capped, while ESOPs need a minimum one year between grant and vesting.

Companies share their ownership with employees in three common ways: employee stock options (ESOPs), restricted stock units (RSUs) and sweat equity shares. They look similar in an offer letter, but they differ in what you pay, when you get the shares and the company law rules behind them. The tax follows one pattern for all three.

What each one is

ESOP. The company grants you an option, a right but not an obligation, to apply for shares at a fixed price after the vesting period. You decide whether to exercise. Market price matters: if it is below the exercise price on the exercise date, you simply let the option lapse.

RSU. The company promises a number of shares, free of cost, once conditions are met. The conditions can be time-based (stay for a period), milestone-based (a target is reached) or both. If you leave before vesting, the RSUs are normally cancelled. RSUs are common with listed and foreign parent companies.

Sweat equity shares. Shares issued by a company to its employees or directors at a discount or for consideration other than cash, for providing know-how, intellectual property rights or value additions. They are allotted directly, not through an option.

Comparison

Point ESOP RSU Sweat equity shares
Nature Right to buy at a fixed price Promise of shares for no payment Shares issued at a discount or for non-cash value
Payment by employee Exercise price in cash Nothing Discounted price, or none
Employee’s choice Can choose not to exercise Receives the shares on vesting Receives the shares on allotment
Companies Act definition Section 2(37) and Rule 12 Not defined separately; Indian companies usually run RSUs under the employee stock option framework, so check the plan document Section 2(88) and section 54, Rule 8
Statutory lock-in None, company decides None, company decides Three years from allotment (Rule 8)
Statutory cap Not set by the Rules Not set by the Rules 15% of existing paid-up equity capital or ₹5 crore of issue value, whichever is higher, in a year, and 25% of paid-up equity capital in total (Rule 8(4)); relaxed for start-ups recognised by DPIIT for up to ten years from incorporation
Minimum vesting One year between grant and first vesting (Rule 12) As per plan Not applicable

The Companies Act points are from Rules 8 and 12 of the Companies (Share Capital and Debentures) Rules, 2014, checked against the text as amended up to 2020. They apply to a company other than a listed company that is not required to follow the SEBI regulations; a listed company follows the SEBI regulations on employee benefits and sweat equity instead. Both Rules require a special resolution. Rule 12 also excludes promoters, the promoter group and directors holding more than 10% from ESOPs, a restriction that does not apply to DPIIT-recognised start-ups for up to ten years from incorporation. Sweat equity is valued by a registered valuer (Rule 8(6)). The Rules are amended from time to time, so confirm the current text.

Income tax: one pattern for all three

Section 17(1)(d) of the Income-tax Act, 2025 taxes the value of any specified security or sweat equity shares allotted or transferred, directly or indirectly, by the current or a former employer, free of cost or at a concessional rate. The value is the fair market value less the amount you paid or that was recovered from you (section 17(4)(h)).

Point ESOP RSU Sweat equity
Taxed at Exercise of the option Allotment of the shares on vesting Allotment
Perquisite FMV less exercise price The whole FMV (you paid nothing) FMV less the price you paid
Head Salaries, TDS under section 392 Salaries, TDS under section 392 Salaries, TDS under section 392

For the valuation rules (listed and unlisted shares, merchant banker, the 180 day window) and the eligible start-up deferral, see our post on ESOP taxation.

Foreign parent company shares

Rule 15(6) values a listed share as the average of the opening and closing price on a recognised stock exchange, and that term means a recognised Indian exchange. A share listed only abroad is, on the wording, “not listed on a recognised stock exchange”, which points to a merchant banker’s valuation under Rule 15(6)(d). The Rules do not say that the foreign market price can be used. In practice, employers and advisers commonly use the closing price on the foreign exchange on the vesting date, because a public quote exists. That is a convention, not a rule, so ask your employer which method it applies and keep the working. A merchant banker’s certificate is the safest support if the amount is large.

A value in a foreign currency is converted at the telegraphic transfer buying rate of the State Bank of India (Rules 206 and 207). For salary, the rate is that of the last day of the month before the month in which the salary is due, and for the sale of the shares (capital gains), the last day of the month before the month of transfer. The conversion dates are therefore different for the perquisite and for the sale.

On sale: capital gains

  • Cost of acquisition: the FMV taken as the perquisite (section 73, Table serial 4).
  • Holding period: from the date of allotment.
Shares Short-term if held for Short-term gain Long-term gain
Listed in India, sold on an exchange with STT paid 12 months or less 20% 12.5% on the gain above ₹1,25,000 in the year
Unlisted Indian shares 24 months or less Slab rates 12.5% without indexation
Foreign shares 24 months or less Slab rates 12.5% without indexation

Some articles show a 20% long-term rate for unlisted shares. For tax year 2026-27 the Act says 12.5% (section 197).

Example (RSU of a foreign parent): 100 RSUs vest and are allotted on 10/06/2026 when each share has an FMV of ₹2,000. Perquisite = ₹2,00,000 (nothing was paid), taxed as salary. You sell all 100 shares after 25 months at ₹2,600 each. Gain = (2,600 - 2,000) × 100 = ₹60,000, long-term, taxed at 12.5% without indexation = ₹7,500 plus cess (the ₹1,25,000 exemption applies only to listed Indian equity sold with STT).

Which is better

It depends on the company and your risk appetite.

  • An RSU is simpler: you pay nothing and have value whenever the shares have value, but you pay income tax on the whole value at vesting.
  • An ESOP needs your cash to exercise and may expire worthless, but the exercise price is fixed, so a large rise in the share price benefits you, and you choose when to trigger the tax.
  • Sweat equity is usually for founders and key people who bring know-how or intellectual property; the three year lock-in matters.

Employers rarely give you a choice, so the practical task is to know the tax at the moment the shares reach you and to keep money ready for it.

Frequently asked questions

What is the difference between RSU and ESOP?

An ESOP gives you the right, not the obligation, to buy shares at a fixed price after vesting. An RSU is a promise of shares at no cost once the vesting conditions are met, so you do not pay to receive them.

How are RSUs taxed in India?

When the shares are allotted to you, their fair market value less any amount you paid (usually nil) is a perquisite taxed as salary under section 17(1)(d), with TDS. Later, the gain over that value is a capital gain.

Are sweat equity shares taxed differently?

No. Section 17(1)(d) covers any specified security or sweat equity shares allotted free of cost or at a concessional rate. The tax on sale follows the same capital gains rules.

Is there any tax if I never exercise my ESOP?

No. A right that is not exercised is not taxed.

What is the lock-in for sweat equity shares?

Three years from allotment under Rule 8 of the Companies (Share Capital and Debentures) Rules, 2014. ESOP shares have no statutory lock-in; the company decides.

Which is better, an RSU or an ESOP?

Neither is better for every employee. An RSU always has value if the shares have value, because you pay nothing. An ESOP can give a bigger gain if the share price rises well above the exercise price, but you must pay to exercise and the options are worthless if the price stays below the exercise price.

Official sources

Disclaimer

This article is for general informational purposes only and should not be considered professional advice. Please consult a qualified expert for advice tailored to your specific situation. The author and website owner are not liable for any errors or actions based on this content.

Is ESOP Discount a Deductible Expense for the Employer? (Tax Year 2026-27)

Posted on by CA Meet Dhrangadhariya

Last updated: 17 September 2026 · Written and reviewed by CA Meet Dhrangadhariya, CSM & Co LLP

Quick summary

  • The discount an employer gives on shares issued under an ESOP (market price less exercise price) has been held to be an allowable business expense, as employee compensation.
  • The leading rulings are the ITAT Special Bench and the Karnataka High Court in Biocon, followed by the Delhi High Court.
  • The Income-tax Act, 2025 has no separate provision for it, so the claim rests on the general deduction in section 34 (earlier section 37(1)).
  • The claim is spread over the vesting period, and the employee is separately taxed on the perquisite at exercise.

When a company issues shares to employees under an ESOP at less than the market price, it gives up value. Can the company claim that difference, the “discount”, as an expense in computing its business profits? For years the department said no. The courts have said yes.

The position in the Income-tax Act, 2025

The Act taxes the employee on the benefit: the fair market value on the exercise date less the exercise price is a perquisite (section 17(1)(d) and (4)(h)). It does not carry a matching rule for the employer’s deduction.

The employer’s claim therefore rests on the general deduction in section 34: expenditure, not capital or personal, laid out or expended wholly and exclusively for the purposes of the business or profession, which is not covered by the specific deduction sections. Section 34 corresponds to section 37(1) of the 1961 Act, on which the case law is based. We found nothing in the 2025 Act that changes the reasoning.

Why the department objected

The usual grounds were that no cash leaves the company on a share issue, that the discount is a notional loss of capital receipt rather than an expense, and that the liability is contingent until the employee exercises the option.

What the courts have held

  • Biocon Ltd v DCIT (ITAT Special Bench, Bangalore, 16/07/2013): the discount on ESOP shares is employee remuneration expenditure and allowable under section 37(1).
  • Karnataka High Court in Biocon (reported December 2020): the department’s appeal was dismissed. Where options vest over a period, for example 25% each year over four years, the employee gets a definite right to that portion at each vesting date and the company is bound to allow it. The discount is therefore an ascertained liability, not a contingent one. Section 37(1) does not require a cash pay out.
  • Delhi High Court: the department’s appeals were dismissed in line with Biocon, in the Lemon Tree Hotels matter, and the court has since followed Biocon in the matter reported as PVR Ltd v CIT.

The employer’s deduction is a business expenditure and the employee’s perquisite is a salary item, so one does not depend on the other.

How to claim it

  1. The reported rulings measure the discount as the market price on the grant date less the exercise price, and treat it as accruing as each tranche vests. Claim each tranche in the year it vests, use one method consistently, and take advice on the method before you adopt it.
  2. Keep the plan document, the board and shareholder approvals, the vesting schedule and the valuation with the return.
  3. Deduct and deposit TDS on the employee’s perquisite at exercise, and report it in Form 123 and the salary TDS certificate.
  4. Where the company is an eligible start-up under section 140, the employee’s tax is payable later (within 14 days of the earliest of 60 months, sale or leaving the job), but the employer’s deduction question remains the same.

Before you rely on this

  • The rulings turn on the facts and terms of the plans before the courts. A plan run through a trust, or one where the employer reimburses a trust, can raise separate questions, so look at your own plan terms.
  • The case summaries above are taken from the reports linked below. Read the full order before you quote it to a client.

Frequently asked questions

Is the ESOP discount deductible for the company?

Courts have held that it is employee compensation cost and an allowable business expenditure. The leading ruling is Biocon Ltd, where the ITAT Special Bench (2013) allowed it and the Karnataka High Court upheld that view.

Which section gives the deduction?

The Income-tax Act, 2025 has no section on ESOP discount specifically. The claim is under the general deduction for business expenditure in section 34, which replaced section 37(1) of the 1961 Act.

In which year is the deduction claimed?

The courts have followed the vesting. Where options vest over several years, each vesting gives the employee a definite right, so the discount for that portion is an ascertained liability of that year.

What is the discount?

The difference between the market price of the share and the price at which the option is exercised. The Karnataka High Court treated it as the cost of securing the employees’ services.

Does the employee also pay tax?

Yes. The employee is taxed on the same difference (FMV on exercise less exercise price) as a perquisite under section 17(1)(d). The employer’s deduction and the employee’s perquisite are separate computations.

Official sources

Disclaimer

This article is for general informational purposes only and should not be considered professional advice. Please consult a qualified expert for advice tailored to your specific situation. The author and website owner are not liable for any errors or actions based on this content.

ESOP Taxation in India: Perquisite on Exercise and Capital Gains on Sale (2026-27)

Posted on by CA Meet Dhrangadhariya

Last updated: 23 July 2026 · Written and reviewed by CA Meet Dhrangadhariya, CSM & Co LLP

Quick summary

  • An employee stock option (ESOP) is a right, not an obligation, to buy shares at a fixed price. Granting and vesting are not taxed; if you never exercise, there is no tax.
  • On exercise, the fair market value (FMV) of the share on that date less the price you paid is a perquisite taxed as salary (section 17(1)(d)), and TDS applies.
  • FMV is set by Rule 15(6): the average of the opening and closing price for a listed share, and a merchant banker’s value for an unlisted one.
  • On sale, capital gains are worked out with that FMV as your cost, and the holding period runs from the date of allotment.
  • Employees of an eligible start-up pay the perquisite tax later: within 14 days of the earliest of 60 months from the end of the tax year, sale of the shares, or leaving the job.

An employee stock option plan (ESOP) lets an employee buy the employer’s shares at a fixed price in the future. The Companies Act, 2013 calls it an employee stock option: a right, but not an obligation. ESOPs are taxed twice, at two different points, under two different heads. This post follows the Income-tax Act, 2025 and the Income-tax Rules, 2026, which apply from 01/04/2026.

The key dates

Term Meaning
Grant date The employer offers you the option
Vesting period The time, or the milestones, before you may exercise
Vesting date The date the option becomes exercisable
Exercise date The date you tell the employer you will buy the shares
Exercise price The price you pay per share, usually below the market price
Allotment The shares are issued or transferred to you

Nothing is taxed on grant or vesting. If the option lapses unexercised, there is no tax either.

Stage 1: tax on exercise (salary)

Under section 17(1)(d), the value of any specified security or sweat equity share allotted or transferred by your current or former employer, free of cost or at a concessional rate, is a perquisite. The value is the fair market value on the date the option is exercised, less the amount you actually paid or that was recovered from you (section 17(4)(h)).

It is added to your salary and taxed at your slab rate. The employer deducts TDS on it under section 392 and shows it in your TDS certificate (Form 130).

How fair market value is fixed (Rule 15(6) and (7))

Situation on the exercise date FMV
Share listed on one recognised stock exchange Average of the opening and closing price on that exchange
Listed on more than one exchange The same average, on the exchange with the highest trading volume
Listed but no trading that day Closing price on the nearest earlier date (on the exchange with the highest volume if more than one)
Not listed Value fixed by a Category I merchant banker registered with SEBI, as on the “specified date”
Specified security that is not an equity share Merchant banker’s value on the specified date

The “specified date” is the exercise date or any earlier date not more than 180 days before it. “Opening” and “closing” price mean the price of the first and the last settlement on the day, and where the exchange quotes buy and sell prices, the sell price.

Employees of an eligible start-up

If the employer is an eligible start-up under section 140 (the section that replaced section 80-IAC), the tax on this perquisite is not payable at exercise. The notice of demand makes it payable within 14 days of the earliest of:

  • the end of 60 months from the end of the tax year in which the shares were allotted;
  • the date you sell the shares; or
  • the date you cease to be an employee of that employer (section 289(3)).

The tax is worked out at the rates in force for the tax year of allotment, and the employer deducts or pays it within the same time (section 392(3)). The older rule used 48 months; the 2025 Act says 60.

Stage 2: tax on sale (capital gains)

When you later sell the shares, the gain after exercise is a capital gain.

  • Cost of acquisition: the FMV that was taken as the perquisite (section 73, Table serial 4). Your own exercise price does not matter again, because the perquisite already taxed the difference.
  • Holding period: counted from the date of allotment (section 2(101)(c)).
Shares Short-term if held for Short-term gain taxed at Long-term gain taxed at
Listed in India, sale on a stock exchange with STT paid 12 months or less 20% (section 196) 12.5% on the gain above ₹1,25,000 a year (section 198)
Listed in India, no STT paid 12 months or less Slab rates 12.5% without indexation (section 197)
Unlisted Indian company 24 months or less Slab rates 12.5% without indexation (section 197)
Foreign company’s shares 24 months or less Slab rates 12.5% without indexation (section 197)

Shares of a foreign company are not “listed on a recognised stock exchange in India”, so the 24 month period applies even if they are listed abroad.

Worked example (listed company)

You hold 2,000 options at an exercise price of ₹80. On the exercise date, 10/06/2026, the FMV is ₹150.

  • Perquisite: (150 - 80) × 2,000 = ₹1,40,000, added to salary. At a 30% slab that is ₹42,000 of tax before cess, mostly collected as TDS.
  • Sale within 12 months, on 15/12/2026 at ₹175: gain = (175 - 150) × 2,000 = ₹50,000, short-term, taxed at 20% = ₹10,000 plus cess.
  • Sale after 12 months, on 20/07/2027 at ₹190: gain = (190 - 150) × 2,000 = ₹80,000, long-term. It is below ₹1,25,000, so no tax on it, provided your other long-term gains from listed equity in that year do not use up the limit.

Other situations

Sell to cover

When shares are allotted, the employer must deduct TDS on a perquisite that you did not receive in cash. Many employers therefore sell part of the allotted shares on your behalf to pay the tax. That sale is itself a transfer, so it can give a small capital gain or loss (usually nil, because the price is close to the FMV used) that belongs in your return.

Buyback of options

An employer, often an unlisted company, may buy back vested options before they are exercised so that employees get cash. Employers generally treat the payment as salary and deduct TDS. We could not find a specific provision for this in the Act, so treat the position as one to confirm for a large amount.

Residence and foreign employers

A resident is taxed in India on income from anywhere in the world. A non-resident is taxed only on income that is received in India or accrues or arises here, and salary for services rendered in India accrues in India. Stock options of a foreign parent can therefore be taxed in India even if the shares are bought and sold abroad. Foreign shares also have to be reported in the foreign assets schedule of the income-tax return.

Advance tax

Gains on sale are income of the year, so include them in your advance tax instalments once the sale has happened. Delay can attract interest, so pay the tax on a sale as soon as you know the gain.

What to check before you exercise

  1. Ask your employer for the FMV method and the FMV it will use on the exercise date.
  2. Check whether the company is a recognised eligible start-up under section 140. If not, you owe tax at exercise even if the shares cannot yet be sold.
  3. Keep the allotment letter and the FMV working. They are your cost of acquisition and holding period when you sell.
  4. Keep cash aside for the tax on the perquisite, because it arises before you receive any money.

Frequently asked questions

Is tax payable when ESOPs are granted or vest?

No. The tax arises when the option is exercised and shares are allotted. If you let the options lapse without exercising them, there is no tax.

How is the ESOP perquisite worked out?

Fair market value of the share on the date you exercise the option, less the amount you paid or that was recovered from you (section 17(4)(h)). It is added to your salary and taxed at your slab rate, and the employer deducts TDS under section 392.

How is FMV decided?

For a listed share, the average of the opening and closing price on the stock exchange on the exercise date (the exchange with the highest trading volume if listed on more than one). If there was no trade that day, the closing price on the nearest earlier day. For an unlisted share, the value fixed by a Category I merchant banker as on the exercise date or any date up to 180 days before it.

What is my cost when I sell the shares?

The FMV that was taken as the perquisite (section 73, Table serial 4). The holding period starts on the date of allotment.

What happens to tax on ESOPs of a start-up?

If your employer is an eligible start-up under section 140, the tax on the perquisite becomes payable within 14 days of the earliest of three events: 60 months from the end of the tax year of allotment, sale of the shares, or your ceasing to be an employee.

Is the sale of shares taxed twice?

No. The perquisite taxes the gain up to the exercise date, and the FMV on that date becomes your cost, so only the increase in value after exercise is taxed as a capital gain.

Official sources

Related reading

Disclaimer

This article is for general informational purposes only and should not be considered professional advice. Please consult a qualified expert for advice tailored to your specific situation. The author and website owner are not liable for any errors or actions based on this content.