Legal basis: Section 392(3) read with Section 289(1)(ii) of the Income Tax Act, 2025 — Effective: 1 April 2026 (replacing Section 192(1C) of the ITA 1961). Source: caclubindia.com, June–July 2026 secondary-source publications. Last reviewed by CA Harun Raaj: January 2025.
The Income Tax Act, 2025 (effective 1 April 2026) replaced every section number that startup)) founders and employees relied on for ESOP tax planning. For employee stock options, the most consequential change is the extension of the tax deferral window from 48 months to 60 months.
If your startup employees exercised ESOPs in FY 2025-26 — or if you are planning fresh ESOP grants under Tax Year 2026-27 — this guide sets out the current position under the new law and the dual eligibility conditions you must satisfy.
Why ESOP Deferral Exists
When an employee exercises stock options, the spread between the Fair Market Value (FMV) at exercise and the exercise price is a taxable perquisite under Section 289(1)(ii) of the Income Tax Act, 2025 (formerly Section 17(2)(vi) of the ITA 1961).
For employees of listed companies, the tax is manageable: shares can be sold on the exchange to fund the liability. For startup employees, shares are illiquid. The old 48-month deferral (ITA 1961 Section 192(1C)) addressed this by delaying the employer's TDS deposit obligation. The new ITA 2025 extends this window to 60 months, giving employees a longer runway before the tax becomes due.
What Changed: 48 Months → 60 Months
Options allotted before 1 April 2026 continue under the 48-month deferral of the old ITA 1961. The two-condition eligibility test applies to all new allotments on or after 1 April 2026.
Key point: DPIIT recognition alone does not trigger the deferral; you must hold both DPIIT recognition and a valid Inter-Ministerial Board (IMB) certificate under Section 140 as of the allotment date.
The Dual Eligibility Condition: Both Are Mandatory
The most common mistake made by founders and HR teams is assuming that DPIIT recognition alone activates the deferral. It does not.
As of the date of allotment, the employing startup must satisfy both conditions simultaneously:
Condition 1 — DPIIT Recognition: The company must be recognised by the Department for Promotion of Industry and Internal Trade as a startup, meeting the applicable turnover and age criteria.
Condition 2 — IMB Certificate (Section 140): The company must hold a valid certificate from the Inter-Ministerial Board (IMB) of Certification, issued under Section 140 of the Income Tax Act, 2025. This is the successor to the Section 80-IAC certificate under the old law. The IMB application is a separate process from DPIIT registration and is not automatic. You must apply to the Department of Industrial Policy & Promotion.
If only one condition is met at the time of allotment, the deferral does not apply. TDS must be deposited in the month of exercise, and the employee's ITR will reflect the full perquisite income in that year.
When Does Deferred TDS Become Due?
Under Section 392(3), the deferral ends on the earliest of:
- The date of sale of the allotted shares by the employee.
- The date of cessation of employment with the startup.
- 60 months from the end of the Tax Year in which the options were allotted.
The perquisite value is computed at the date of exercise (not the trigger date). The TDS rate applied is the employee's income-tax slab rate in the Tax Year of allotment, not the Tax Year of the trigger event. This is a material planning point: if an employee's slab rate changes between allotment and the trigger event, the TDS is still computed at the allotment-year rate.
Illustrative Example
TechCo Private Limited is a Bengaluru-based SaaS startup with DPIIT recognition since 2022 and a valid IMB certificate under Section 140 ITA 2025. In Tax Year 2026-27 (May 2026), the company allots 500 options to a senior developer under its ESOP plan. FMV at exercise is ₹2,000 per share; exercise price is ₹50.
- Perquisite value: (₹2,000 – ₹50) × 500 = ₹9,75,000
- TDS deferred for 60 months from end of Tax Year 2026-27 (i.e., from 31 March 2027)
- TDS due date: latest by 31 March 2032 (or earlier if shares sold or employment ceases)
- TDS rate: the slab rate applicable to this employee in Tax Year 2026-27
This is an illustrative example only. Actual positions may differ based on individual circumstances and updated CBDT guidance.
Practical Compliance Checklist
- Verify IMB certificate currency. Check that it is current and valid as of each allotment date. A lapsed certificate creates a gap in eligibility, and the deferral will not apply to options allotted during the lapse.
- Date-stamp every allotment. The 48-month vs 60-month threshold is determined by the allotment date (before or on/after 1 April 2026). Document this in the ESOP allotment letter and board resolution.
- ITR filing for employees (AY 2026-27, due now). Employees who exercised ESOPs in FY 2025-26 at non-eligible startups must report the perquisite income in ITR-2 or ITR-3. Check Form 16 carefully — if the perquisite is missing, raise it with the employer before filing.
- Exit modelling. For employees approaching their 48/60-month mark, model the TDS liability early. The tax hit at trigger can be material and should be factored into employment agreements and exit planning.
- Update ESOP documentation. New ESOP grants (Tax Year 2026-27 onward) should reference ITA 2025 section numbers in ESOP plan documents and employment agreements. References to ITA 1961 sections are stale from 1 April 2026.
FAQ
I'm CA Harun Raaj. If this affects your company's compliance calendar, reach out.
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See Also
Frequently asked questions
Does the 60-month deferral under ITA 2025 Section 392(3) apply to options granted to foreign employees of an Indian subsidiary?
The deferral applies where the *employer* is an eligible Indian startup meeting both conditions (DPIIT recognition and IMB certificate under Section 140). The employee's residency status affects the perquisite taxation at the trigger event (resident vs RNOR vs NR), but eligibility for deferral is determined by the employer's status, not the employee's nationality.
What happens if my startup loses its IMB certificate between allotment and the 60-month trigger date?
Eligibility is assessed at the time of allotment. If both conditions are satisfied on the allotment date, the deferral is locked in for that batch of options. However, the precise statutory position on mid-deferral certificate lapse under ITA 2025 is not yet settled in authoritative guidance. Consult a CA specialising in startup taxation for your specific scenario.
Can an employee delay the sale of shares to manage the TDS rate at the trigger date?
No. The perquisite is taxed at the slab rate of the Tax Year of allotment, not the trigger year. Restructuring the sale timing does not change the perquisite tax rate. However, the sale creates a separate capital gains event, and the holding period for capital gains is computed from the date of allotment, so timing does affect the long-term vs short-term capital gains treatment.
Do ESOP options allotted before 1 April 2026 benefit from the 60-month window?
No. Options allotted before 1 April 2026 continue under the 48-month deferral of the old ITA 1961 Section 192(1C). The 60-month window applies only to options allotted on or after 1 April 2026, under ITA 2025 Section 392(3).
If my company has DPIIT recognition but no IMB certificate, can employees still defer ESOP tax?
No. Both conditions must be satisfied simultaneously at the allotment date. DPIIT recognition alone does not activate the deferral. The IMB certificate under Section 140 ITA 2025 is a separate requirement. Employees at startups lacking the IMB certificate must pay TDS in the month of exercise, and the full perquisite is taxable in that year.
Which valuation method applies to compute the perquisite value for unlisted startup shares?
Rule 11UA of the Income Tax Rules (renumbered under ITA 2025 Rules) governs ESOP valuation for unlisted companies. The FMV must be determined by a SEBI-registered Category I Merchant Banker using a specified valuation date. Verify the current rule number under the ITA 2025 Rules, 2025 against the official CBDT gazette, as rule numbering has changed.
What ITR form must an employee file if they exercised ESOPs at a startup that was not deferral-eligible?
The employee must report the full perquisite income in ITR-2 or ITR-3 (depending on income sources) in the Tax Year of exercise. The employer must issue a Form 16 reflecting the perquisite amount and TDS deducted. If the Form 16 is missing or incorrect, the employee should raise it with the employer before filing the ITR.
Does the ITA 2025 deferral apply to stock-appreciation rights (SARs) or only to equity options?
Section 289(1)(ii) ITA 2025 governs the perquisite treatment of equity stock options specifically. The deferral eligibility under Section 392(3) is tied to the perquisite taxation framework for options. The treatment of SARs and other equity instruments under ITA 2025 is not addressed in the source material for this article — consult a tax professional for SARs-specific guidance.
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