ESOP Taxation Explained: How to Report in ITR
- Dipali Waghmode
- 6 days ago
- 9 min read
Employee Stock Option Plans (ESOPs) are a popular way for companies to reward and retain employees by offering ownership in the business. However, these benefits come with tax implications at multiple stages. ESOP taxation in India occurs first when shares are allotted (perquisite tax) and again when they are sold (capital gains tax). Proper reporting in your Income Tax Return (ITR) is crucial to avoid errors, penalties, and scrutiny. Understanding how these taxes apply, how they differ for startups, and how to disclose them correctly ensures compliance and smoother refund processing.
Table of Contents
Understanding ESOP Taxation in India
Employee Stock Option Plans (ESOPs) are a form of incentive given by companies to employees, allowing them to buy company shares at a predetermined price, often lower than the market value. This mechanism aligns employees’ interests with the company’s growth and performance. Under the Indian Income Tax Act, 1961, ESOPs are taxable at two stages—first when the employee exercises the option (perquisite taxation under salary), and second when the shares are sold (capital gains taxation). Understanding the timing, valuation, and reporting of these taxes is essential for ensuring compliance and accurate filing.
Tax at the Time of Exercising ESOPs (Perquisite Tax)
When an employee exercises ESOPs, the difference between the Fair Market Value (FMV) of the shares on the exercise date and the exercise price paid is considered a taxable perquisite. This amount is added to the employee’s salary income and taxed at the applicable slab rate under Section 17(2)(vi) of the Income Tax Act.
Employers are responsible for deducting TDS on the perquisite value at the time of exercise. The formula to determine taxable perquisite is:
Taxable Perquisite = FMV on Exercise Date – Exercise Price Paid
For employees of eligible startups registered under Section 80-IAC, the law provides a deferment benefit. The payment of tax on the perquisite value can be postponed to the earlier of the following events: 5 years from allotment, sale of the shares, or termination of employment.
Tax at the Time of Sale of Shares (Capital Gains Tax)
After the ESOP shares are allotted and subsequently sold, capital gains tax applies. The taxable gain is the difference between the sale price and the FMV on the exercise date (not the original grant price).
If the shares are held for less than 12 months, the profit qualifies as a short-term capital gain and is taxed at the employee’s applicable slab rate. If the shares are held for more than 12 months, the profit is treated as a long-term capital gain and taxed at 10% without indexation benefits. Long-term capital gains up to ₹1.25 lakh are exempt in a financial year.
How to Report ESOP Taxation in ITR
ESOP taxation needs to be disclosed carefully in the correct sections of the Income Tax Return. The perquisite value from ESOP exercise should be reported under ‘Income from Salary’ in the Schedule S of the ITR form. The capital gain or loss from the sale of shares should be reported under Schedule CG (Capital Gains).
Employers’ TDS on the perquisite will appear in Form 16 and Form 26AS, ensuring accurate reflection of taxes paid. Taxpayers must choose the correct ITR form—ITR-1 for simple salaried income, or ITR-2 if there are capital gains or other sources of income.
ESOP Taxation for Startups under Section 80-IAC
Recognizing the challenges faced by startup employees, the government introduced special provisions under Section 80-IAC. Eligible startups can defer payment of perquisite tax arising from ESOP exercise for up to five years or until the employee sells the shares or leaves the organization, whichever occurs first.
This relief helps employees manage liquidity issues, as they often do not have immediate cash to pay taxes when exercising ESOPs. However, it is crucial for startups and employees to maintain compliance with the eligibility and reporting requirements set by the CBDT.
Calculating ESOP Perquisite and Capital Gains: Example Table
Particulars | Amount (₹) |
Fair Market Value (FMV) on exercise date | 500 |
Exercise Price Paid | 200 |
Perquisite Value (Taxable as Salary) | 300 |
Sale Price of Shares | 700 |
Capital Gains (Sale Price – FMV) | 200 |
In this example, ₹300 will be taxed as salary income in the year of exercise, while ₹200 will be taxed as capital gains in the year of sale.
How to Report ESOPs under Different ITR Forms
The choice of ITR form depends on the complexity of income sources.
ITR-1 can be used by salaried taxpayers without capital gains or business income.
ITR-2 should be used if ESOP shares have been sold, generating capital gains.
ITR-3 applies if the taxpayer has business or professional income along with ESOP income.
Accurate classification ensures the return is processed smoothly and avoids notices for misreporting.
Is ESOP Income Taxed Under the New Tax Regime?
Under the new tax regime, perquisite taxation on ESOPs continues to apply as per the Income Tax Act, 1961. However, deductions such as Section 80C or 80D that can offset total income are not available in the new regime. Taxpayers need to compare total liability under both regimes before filing.
In most cases, employees with high perquisite income may benefit from the old regime due to available deductions, while others with straightforward salary structures may prefer the new one for lower slab rates.
Common Mistakes While Reporting ESOPs in ITR
Reporting the FMV difference incorrectly under salary income.
Forgetting to disclose capital gains from share sale.
Mismatch between TDS shown in Form 16 and Form 26AS.
Using the wrong ITR form.
Ignoring deferred taxation timelines for startup employees.
These errors may lead to processing delays or notices from the Income Tax Department. Double-checking entries before filing helps avoid compliance issues.
How TaxBuddy Simplifies ESOP Tax Filing
TaxBuddy simplifies ESOP-related tax filing through automation and expert guidance. The platform auto-imports data from Form 16 and 26AS, identifies perquisite and capital gain details, and ensures accurate tax computation. Its AI-driven interface minimizes manual input errors and recommends the right ITR form based on income type.
By integrating advanced compliance checks, TaxBuddy helps employees manage ESOP taxation seamlessly. From salary income to capital gains, the process is faster, safer, and more reliable through the TaxBuddy mobile app.
Key Takeaways for ESOP Holders
ESOPs are taxed twice—once as salary income during exercise and again as capital gains upon sale.
Keep all relevant documents such as grant letters, FMV certificates, and Form 16.
Verify TDS entries before filing.
Choose the correct ITR form for accurate reporting.
Evaluate whether the old or new regime offers better tax efficiency.
Consider using a professional or automated service like TaxBuddy for smooth filing.
Conclusion
Accurate reporting of ESOPs in your Income Tax Return ensures compliance and avoids unnecessary scrutiny or penalties. With dual-stage taxation and multiple reporting requirements, understanding each component helps in managing taxes better. For anyone looking for assistance in tax filing, it is highly recommended to download the TaxBuddy mobile app for a simplified, secure, and hassle-free experience.
FAQs
Q1. Does TaxBuddy offer both self-filing and expert-assisted plans for ITR filing, or only expert-assisted options? TaxBuddy provides both self-filing and expert-assisted plans to meet the diverse needs of taxpayers. The self-filing plan is designed for salaried individuals or those with simple income sources. It uses AI-driven automation to pre-fill data from Form 16, PAN, and AIS, ensuring accuracy. For individuals with complex cases such as capital gains, ESOPs, business income, or NRI income, the expert-assisted plan connects users with qualified tax professionals who prepare, review, and file the return on their behalf. This dual approach allows flexibility while ensuring that every taxpayer can file confidently, regardless of complexity.
Q2. Which is the best site to file ITR? While the Income Tax Department’s official e-filing portal (incometax.gov.in) remains the statutory platform for filing returns, many taxpayers prefer using private platforms that simplify the process. TaxBuddy stands out among them because it combines automation, expert validation, and data security. Its AI-assisted engine ensures accurate pre-filling of forms, checks for missing or incorrect details, and calculates tax liability automatically. For those who find the government portal complex or time-consuming, TaxBuddy offers a reliable and faster alternative with human assistance and continuous post-filing support.
Q3. Where to file an income tax return? Income tax returns can be filed directly through the official Income Tax Department portal or via trusted third-party platforms authorized for e-filing. Filing through the portal requires manual entry of data, document uploads, and validation. However, platforms like TaxBuddy simplify the process by importing data automatically from PAN, Aadhaar, and Form 16, reducing manual effort and error risk. These platforms also provide a step-by-step guided experience that ensures compliance with the latest CBDT regulations, making the process more user-friendly and efficient.
Q4. Is ESOP income taxable even if the shares are not sold? Yes, ESOP income becomes taxable at the time of exercise, irrespective of whether the employee sells the shares later. The difference between the Fair Market Value (FMV) on the date of exercise and the exercise price paid is treated as a taxable perquisite under the head “Income from Salary.” This income is added to the employee’s total salary for that financial year and taxed at the applicable slab rate. The sale of shares later will attract capital gains tax, but the perquisite component is taxed immediately upon exercise.
Q5. Can employees claim deductions on ESOP income? Employees cannot claim any specific deduction directly against ESOP perquisite income. However, since the perquisite value is taxed under the “Income from Salary” head, eligible deductions available to salaried individuals under Chapter VI-A, such as those under Section 80C (investments in PPF, ELSS, etc.) or Section 80D (health insurance), can still be claimed. It’s important to remember that these deductions reduce overall taxable income, but they do not offset ESOP-specific taxation. Planning ESOP exercises with salary structure and available deductions can help reduce total tax payable.
Q6. How is the Fair Market Value (FMV) determined for ESOPs? The Fair Market Value (FMV) of ESOP shares depends on whether the company is listed or unlisted. For listed companies, FMV is the average of the opening and closing market prices on the date the employee exercises the option. If the company is unlisted, FMV must be determined by a Category-I Merchant Banker, as per Income Tax Rules. This valuation ensures that the perquisite tax is computed fairly and in line with market conditions. Employees should obtain the FMV certificate from their employer or valuer for accurate reporting in their ITR.
Q7. What happens if ESOP income is not reported in the ITR? Failing to report ESOP income can result in severe consequences. The Income Tax Department may issue notices for under-reporting or misreporting of income, leading to additional tax liabilities, interest under Sections 234A/B/C, and penalties. Since employers deduct TDS on ESOP perquisites and report them in Form 16 and Form 26AS, any omission will create a mismatch in your tax data. This discrepancy can trigger scrutiny or delay in processing your return. It is crucial to cross-verify your Form 16 and include ESOP details accurately under “Income from Salary.”
Q8. What are the ESOP tax benefits available to startup employees? Startup employees working with eligible companies under Section 80-IAC of the Income Tax Act receive a special tax deferral benefit. Instead of paying perquisite tax immediately upon exercising ESOPs, they can defer it to a later date—either within five years from allotment, on sale of shares, or on cessation of employment, whichever happens first. This provision helps employees manage liquidity better since ESOPs often involve shares that may not have an immediate resale market. However, startups and employees must ensure the company’s eligibility under Section 80-IAC to avail this benefit.
Q9. How can one determine whether ESOP gains are short-term or long-term? The classification of ESOP gains as short-term or long-term depends on the holding period between the date of exercise and the date of sale. If the shares are sold within 12 months from the exercise date, the gain is considered short-term and taxed at the applicable income tax slab rate. If the shares are sold after 12 months, the gain is treated as long-term and taxed at 10% (without indexation), provided the gains exceed ₹1.25 lakh in a financial year. Maintaining a clear record of allotment and sale dates helps in determining the correct holding period for accurate tax reporting.
Q10. Is TDS applicable on ESOPs? Yes, TDS applies to ESOPs at the time of exercising the option. The employer is required to calculate the perquisite value based on the difference between the FMV and the exercise price and deduct TDS under Section 192. The deducted amount is reflected in Form 16 and Form 26AS of the employee. This ensures that the perquisite tax is partially prepaid before the employee files their return. Employees must verify these details and ensure that their ITR reflects the same figures to avoid discrepancies during processing.
Q11. How to ensure ESOP-related taxes are correctly reflected in ITR? To ensure accuracy, employees should cross-check the perquisite value in Form 16 with the income reported under the “Salary” section of their ITR. They must also confirm that the TDS entries appear correctly in Form 26AS or AIS (Annual Information Statement). When shares are sold, the transaction details should be reported under Schedule CG with proper classification into short-term or long-term gains. Using digital filing platforms like TaxBuddy can simplify this process, as the system automatically imports data from Form 16, Form 26AS, and broker statements, minimizing the risk of mismatch or omission.
Q12. How does TaxBuddy assist with ESOP taxation and filing? TaxBuddy’s AI-driven filing platform is designed to handle complex income structures like ESOPs with ease. It automatically extracts perquisite data from Form 16, identifies the correct FMV, and calculates taxable income. The system also imports capital gains details from broker statements or AIS to ensure precise reporting. With its expert-assisted plan, TaxBuddy’s professionals review every return to confirm that all ESOP-related disclosures and tax calculations comply with the latest Income Tax rules. The mobile app further simplifies tracking, enabling employees to file, verify, and manage ESOP taxation seamlessly within minutes.
