Summary: Employee Stock Option Plans (ESOPs) and Restricted Stock Units (RSUs) are common components of employee compensation, particularly in multinational corporations. While often used to retain employees, their taxation can be intricate. ESOPs grant employees the right to purchase company shares at a predetermined price, typically lower than the market value, after a vesting period. In contrast, RSUs are granted free of cost, with shares automatically received by employees upon vesting. Companies in early or growing stages often prefer ESOPs, while established companies frequently use RSUs. The taxation of both ESOPs and RSUs occurs in two stages. The first stage involves taxation as a perquisite under “Income from Salary.” For ESOPs, this occurs when they are exercised. The difference between the fair market value (FMV) of the share on the exercise date and the exercise price paid by the employee is treated as a taxable perquisite. For RSUs, since they are allotted free of cost, the entire FMV of the share on the allotment date is taxed as a perquisite.
The second stage of taxation occurs when the shares acquired through ESOPs or RSUs are subsequently sold by the employee. At this point, the transaction is subject to capital gains tax. The capital gain is calculated as the difference between the sale price of the shares and the FMV on the date of exercise (for ESOPs) or allotment (for RSUs). For example, if an employee exercises ESOPs with an FMV of Rs. 8,000 per share and an exercise price of Rs. 7,500, Rs. 500 per share is taxed as a perquisite. If these shares are later sold at Rs. 10,000 per share, the capital gain would be Rs. 2,000 per share (Rs. 10,000 – Rs. 8,000). Understanding these stages is essential for employees managing their tax obligations related to stock-based compensation. In this article, we’ll clear all the doubts of taxation of ESOPs & RSUs. Before understanding their taxation treatment, let us understand the difference between the two.
Difference Between ESOPS & RSUs
| Basis | ESOPs | RSUs |
| Choice to receive | In ESOPS, usually employees have the right to buy the shares | In RSUs, employees automatically receive the shares at the end of the vesting period. |
| Type of Companies | Companies which are in the early or growing stage provide the option of ESOPs | Companies which are comparatively old & settled provide RSUs to Employees |
| Whether price needs to be paid | In case of ESOPs, usually employees have to pay the prescribed amount (lower then FMV of the share) to obtain ESOPs | RSUs are provided free of cost to employees |
Main purpose of providing ESOPs & RSUs is to retain the employees. Usually at the time of providing offer letter to new joinees, Companies offer the shares to employees after completing the prescribed number of years alongwith the Salary.
Now, let us deep dive into understanding of taxation of ESOPs/RSUs in the hands of Employees.
1) Stage 1-Taxation as Perquisites
ESOPs– When ESOPS are vested & exercised by the employees, it is taxable as Perquisite.
The difference between the Fair market Value of the share on date of Exercise & Exercise price paid by the employees is taxable as Perquisite.
Perquisite= FMV on date of exercise- Exercise Price
RSUs-Since, RSUs are allotted at free of cost, then Fair market Value of share on date of allotment shall be taxed as perquisite.
Perquisite= FMV on date of exercise
Perquisites are categorized under the head “Income from Salary’.
2) Stage 2 – Taxation under the head ‘Capital Gain’
This is the second stage of taxation of ESOPs & RSUs. Once, they are taxed as perquisites as mentioned above.
Further, when ESOPs/RSUs are sold by the employees, then Capital Gain is calculated. Capital Gain is the difference between Sale price less FMV on date of exercise.
Capital Gain= Sale price Less FMV on date of exercise
Example
Now, let us understand this with an example.
When an employee joined in February, 2023. Under his offer letter, it was mentioned that he’ll get 1000 ESOPs after the vesting period of 1 year the price of Rs. 7500.
In February 2024, shares got vested. In February 2024, FMV of the shares was Rs. 8000. The employee exercised the offer & paid Rs. 75,00,000 (1000 shares @ Rs. 7500 per share)
1) Stage 1-Taxation as Perquisites
At the stage, the following shall be taxed as perquisite in the hands of Employee.
80,00,000 (8000*1000) less 75,00,000 (7500*1000) = Rs.5,00,000
Rs. 5,00,000 shall be taxed as perquisite in the hands of Employee
2) Stage 2 – Taxation under the head ‘Capital Gain’
Further, when employee sold the shares in May 2025 @ Rs. 10,000. The difference between sale price & FMV as on date of exercise shall be taxed as Capital Gain.
Capital gain= (10,000- 8000) *1000= Rs. 20,00,000
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About the Author: Author is CA Vidhu Duggal helping in advisory on domestic & International taxation issues. She is also founder of Vidhu Duggal & Company. Chartered Accountants, a Chartered Accountancy firm with its head office at New Delhi and can be reached at vidhuduggal94@gmail.com or+91-9268747482.
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