By S&S Co. Advocates & Solicitors · Published 20 September 2026 · Informational content, not legal advice — see our disclaimer
Two Separate Tax Triggers
ESOPs are taxed at two distinct points. First, as a perquisite at exercise — taxed as salary on the fair market value at exercise minus the exercise price paid — with the employer obligated to deduct TDS at that point. Second, as capital gains at sale — the sale price minus the FMV at exercise — taxed as short- or long-term capital gains depending on the holding period. Employees should understand both triggers apply, not just the one at eventual sale, since a real tax liability can arise at exercise even before any cash is realised from selling the shares.
Holding Period for Capital Gains Treatment
For listed shares, a holding period beyond 12 months from exercise qualifies for long-term capital gains treatment; unlisted shares typically require a longer holding period for LTCG classification. Employees planning around a liquidity event should factor this holding-period requirement into their timing decisions.
The Startup Deferral Relief
Eligible startups — those holding both DPIIT recognition and a valid tax-exemption certification, historically under Section 80-IAC — can defer the perquisite tax liability at exercise to the earliest of: sale of the shares, the employee leaving the company, or a fixed number of years from the end of the relevant assessment year. This is a meaningful relief for employees of qualifying startups, since it avoids a tax bill on paper gains before any actual liquidity exists.
Confirm Eligibility Before Promising Deferral
Only a small fraction of DPIIT-recognised startups actually hold the certification needed to offer this deferral — reported at roughly 3,700 of about 1.97 lakh recognised startups as of April 2025 — so companies must confirm their own eligibility before promising deferral to prospective hires, and should not assume DPIIT recognition alone unlocks this benefit.
Employer Obligations
Employers must obtain a valuation of FMV at exercise from a registered or merchant-banker valuer, for unlisted shares, to correctly compute and report the perquisite value for payroll TDS purposes. From Tax Year 2026-27, salary TDS provisions, including on ESOP perquisites, are renumbered under the Income-tax Act, 2025, though the underlying computation methodology is largely carried over from the earlier framework.
Frequently Asked Questions
When is ESOP tax actually triggered — at grant, exercise, or sale?
At exercise (as a perquisite, taxed as salary on the difference between FMV at exercise and the exercise price paid) and again at sale (as capital gains, on the difference between the sale price and FMV at exercise). Grant itself is not a taxable event.
Can startup employees defer the tax due at exercise?
Possibly. Startups holding both DPIIT recognition and a valid Section 80-IAC-type certification can defer the perquisite tax liability to the earliest of share sale, the employee leaving, or a fixed number of years — but only a small fraction of DPIIT-recognised startups actually hold this certification.
How long must I hold ESOP shares for long-term capital gains treatment?
For listed shares, beyond 12 months from exercise. Unlisted shares typically require a longer holding period for long-term capital gains classification.
References & Further Reading
This article references the following statutory provisions. Readers should always verify current rules, fees and timelines against the applicable statute and rules as amended, since these are revised from time to time.
- Income-tax Act, 1961 (or its successor, the Income-tax Act, 2025), ESOP perquisite and capital gains provisions, and Section 80-IAC deferral relief.