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ESOP Taxation: Definition, How Does it Work

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May 24, 2023


What’s Inside

ESOP, or Employee Stock Ownership Plan, is  an employee benefit plan that an employer offers its employees. It allows the employees to purchase the company's stock at a low-market price that they can encash after a certain period at a specific price. Besides, it also provides the employees with ownership interest. Organizations may issue ESOPs through profit-sharing plans, direct stock, or bonuses. But, employees must understand ESOP taxation before exercising this option.

How Does ESOP Work?

In today's era, employees receive much more than just a monthly salary slip. One such advantage is the Employee Stock Ownership Plan (ESOP), wherein employers decide how many shares to offer. However, before granting ESOPs to any employee, the employer must follow specific rules and regulations as per the Companies Act 2013. Once these regulations are followed, employers can offer ESOPs to employees with a particular grant date. 

That implies that the particular employee must stay with the company during the vesting period to gain stock ownership via exercising ESOP. After the vesting period expires, the employee will have full rights to exercise the ESOPs. 

If the employee leaves the company for any reason before the vesting period, the organization must repurchase the ESOP at a fair market value within 60 days. It is essential to remember that tax on ESOP in India is mainly done as a prerequisite. It is subject to taxation during the exercise or share transfer period to the employee.

Tax Implications of the ESOPs

Individuals must understand the tax on ESOP in India before their employers implement an ESOP scheme. There are dual implications of ESOP tax. 

  • The time when the employees exercise their rights and purchase the company share.
  • When the employees sell company shares after purchasing them.

Now, let's delve deeper to understand all these implications in detail.

Taxation at the Time of Purchasing the Share

The employers can purchase the company share at a lower rate than FMV or Fair Market Value after the vesting period. When employees exercise the stock option, it will be a taxable income. Then, the shares will be credited to the employee's Demat Account once the shares are bought. Here is the ESOP taxation at the time of purchasing the claim.

  • The stock option exercise will be treated like a prerequisite under the employee's salary.
  • The primary difference between the exercise price and FMV is the perquisite amount.
  • The amount will be taxed during the ESOP exercise period.
  • The company's employer will deduct the TDS and give Form 16 to its employees.
  • The employees must pay the tax at slab rates and claim TDS credit.

Taxation at the Period of Selling the Company Share

When the company's employees sell the company share, it will be directly subject to the capital gains tax. Here is the ESOP taxation when selling the company shares.

  • The primary difference between the FMV and sales price is the capital gains amount. 
  • The holding period will be calculated from the starting date of the ESOP exercise to the sale date. 
  • If the employee sells the company shares after twelve months of purchasing them, a 10% tax will be applicable on the gains beyond Rs.1 lakh. On the other hand, if any employee sells the company share within twelve months, a 15% tax will be applicable on their gains. 

Final Thoughts

Understanding what the ESOP is with its tax implications and how they work is crucial before you proceed further. Also, you must pay attention to the vesting period before exercising ESOP. Furthermore, consider using an ESOP tax calculators to determine the tax liability while exercising ESOPs or selling them.

Frequently Asked Questions

1. How Is Tax Calculated for ESOP?

The ESOP or Employee Stock Ownership Plan is mainly calculated on the difference between the ESOP exercise and FMV prices. The calculation also considers the number of ESOP shares, vesting period, etc.

2. Is ESOP expense taxable?

Yes, the ESOP expense is entirely taxable. If the employees hold the company share for less than 12 months, the tax rate on their gains will be 10%. But, if any employee has the company share for more than 12 months, the concessional tax rate will be 15% on the overall gain.


Fi Money is not a bank; it offers banking services through licensed partners and investment services through epiFi Wealth Pvt. Ltd. and its partners. This post is for information only and is not professional financial advice.
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