ESOP is an acronym for Employee Stock Ownership Plan or Employee Stock Option. ESOP is offered by the company to employees.
Imagine clocking into your 9-to-5, sipping that routine cup of coffee, and realizing your job could also be your golden ticket to wealth creation. Sounds like a dream, doesn’t it? Well, with ESOPs—or Employee Stock Ownership Plans—it’s not just a pipe dream anymore. It’s a very real and increasingly popular way for employees to own a slice of the company they help build every day.
ESOPs have caught on like wildfire, especially in startups, tech giants, and even traditional conglomerates looking to retain top talent. But here’s the kicker: while ESOPs offer an exciting path to financial growth, they also come bundled with a web of tax rules, eligibility clauses, and strategic decisions that can leave even the smartest professionals scratching their heads.
Let’s dive in and demystify the world of ESOP – Employee Stock Ownership Plan Benefits & Tax, once and for all!
What is ESOP?
ESOP is Employee Stock Option. It is an option given by the company to employees. In this option, employees get the right to purchase a certain number of the company’s shares at a predefined price. This offer is given only for a specific period or periods. ESOP is one type of performance reward offered to loyal and hardworking employees. Many companies use ESOPs as a retention tool.
ESOPs are generally offered to employees at discounted rates. It is given in parts, and there is a fixed vesting schedule. The period for which employees have to wait before exercising a right to buy the share is known as the vesting period. If an employee doesn’t exercise the option, it will lapse, and the employee will not get any rights.
In addition to serving as a reward and retention mechanism, ESOPs can play a strategic role in business continuity planning. Many companies in different sectors offer ESOPs to employees to attract and retain talent.
Also Read – Gratuity – Important Points to Know about the Gratuity
How can employees benefit from ESOPs?
ESOPs help employees accumulate wealth. It can act as a good tool to generate a retirement corpus. It is advisable to exercise the SOP option when shares are trading at a lower price. In simple terms, you need to follow the strategy of buying a share at a lower price and selling it at a higher price to gain a higher profit.
Before opting for ESOP, one should understand that there is a risk associated with exercising this stock option. If the company does not perform well in the future, you may end up losing money. Apart from that, in most of cases, a stock option is given as a part of a compensation package. Acceptance of a stock option will reduce fixed pay. One should do a cost-benefit analysis before accepting the stock option. You should consider factors such as reduction in salary, expected cash outflow, tax implications, and share price at the time of exercising this option.
What are the advantages and disadvantages of ESOP?
Advantages
- ESOPs can be a very good tool for wealth accumulation in the long run.
- ESOPs are one of the ways to participate in the equity market for the newbie.
- Employees generally know about the growth prospects of the company, so they can decide their investment strategy.
- For the employer, it will act as a good tool for the retention of good employees.
- An employer can give ESOPs when a company is running out of cash.
- An employee will be more focused on delivering results as they have a stake in the company.
Disadvantages
- Sometimes ESOPs may backfire and give very low or no returns to the employee.
- ESOPs do not provide liquidity.
- ESOPs come with tax implications.
- In some of the cases company place a condition of a locking period or bond, which will dilute the benefits of ESOPs.
Given these drawbacks, it’s worth exploring other succession strategies that avoid the cost and complexity of traditional ESOPs. In fact, selling to employees without an ESOP—such as through direct sales or structured internal buyouts—has become a practical and increasingly popular option for owners seeking a smoother transition. Learning more about how to sell to your employees can help you evaluate whether a non-ESOP route aligns better with your goals and circumstances.
Also Read – 10 Best Investment to get regular monthly income
Tax Implications of ESOP
ESOP taxation in India happens in two stages:
Stage 1: At the Time of Exercise
When you exercise your ESOPs (i.e., buy them at the exercise price), the difference between:
Fair Market Value (FMV) – Exercise Price
…is considered perquisite income and taxed as salary income. This amount appears on your Form 16, and TDS is usually deducted.
💥 Example:
Exercise Price: ₹100/share
FMV on Exercise Date: ₹300/share
Taxable Income: ₹200/share
So, if you exercised 1,000 shares:
200 x 1000 = ₹2,00,000 gets added to your income and taxed as per your slab.
Stage 2: At the Time of Sale
Now, when you sell the shares, the gain from FMV (when exercised) to Sale Price is treated as a Capital Gain.
Held < 24 months (for unlisted shares) = Short-Term Capital Gain (taxed as per slab)
Held > 24 months = Long-Term Capital Gain (taxed @ 20% with indexation)
For listed shares, the holding period is only 12 months, and LTCG > ₹1 lakh is taxed @ 10% (without indexation).
FAQs
Q1. What happens to ESOPs if I leave the company?
Only the vested ESOPs stay with you. Unvested ones usually lapse unless your company’s policy says otherwise.
Q2. Is ESOP income taxable every year?
Nope! It’s taxed only at the time of exercise (as salary) and again at sale (as capital gains). No yearly tax unless there’s an event.
Q3. Can I negotiate ESOPs in my offer letter?
Absolutely. Just like salary or bonuses, ESOPs can be negotiated, especially in startups or smaller firms.
Q4. What if my company never IPOs?
If there’s no liquidity event, your ESOPs might stay on paper. Some companies offer buyback options, so always ask HR.
Q5. How do I know the FMV of unlisted shares?
Companies get a valuation report from a registered valuer or merchant banker. That’s the FMV used for tax calculations.
Q6. Can ESOPs make you rich?
Short answer: Yes, but only if the company performs well, scales, and exits (IPO, acquisition, etc.). Think Infosys, Flipkart, or Zoho.
Q7. Is there a risk with ESOPs?
Yes—if the company fails or doesn’t scale, the shares might become worthless. It’s not guaranteed money.
Q8. Do I need to pay for ESOPs?
In most cases, yes. You pay the exercise price to convert ESOPs into shares. Some firms may grant them free, but that’s rare.
Conclusion
ESOP is a very good wealth generation tool. However, before opting for ESOP, one should do a proper analysis of risk vs reward.
From motivation and ownership to real wealth creation, ESOPs aren’t just another corporate buzzword—they’re a powerful tool in your financial arsenal. But with great stock power comes great tax responsibility. Knowing the rules, playing your cards right, and timing your moves well can turn these pieces of paper into serious payday.
So the next time your HR slides that ESOP policy across the desk, don’t just skim it—dig deep. It might just be the most valuable “benefit” your company has ever offered.
Because in today’s world, building wealth isn’t just about saving—it’s also about owning a piece of the action.
