Legal basis: Income Tax Act 2025, Section 392(3) read with Section 289(3) — Effective: 1 April 2026. For allotments prior to 1 April 2026, Section 192(1C) of the Income Tax Act 1961 continues to apply. Source: incometaxindia.gov.in. Last reviewed by CA Harun Raaj: January 2025.
The Income Tax Act 2025, effective from 1 April 2026, has replaced the Income Tax Act 1961. For startup)) employees and founders dealing with Employee Stock Option Plans (ESOPs), one of the most consequential changes is the extension of the ESOP perquisite TDS deferral window from 48 months to 60 months — governed by Section 392(3) read with Section 289(3) of the ITA 2025, replacing the earlier Section 192(1C) of the ITA 1961.
This extension provides startup employees an additional 12 months before mandatory tax payment crystallises, creating a longer runway to find a liquidity event. Yet the qualification conditions remain strict, and many founders and employees misunderstand which approvals they actually need.
Why ESOP Taxation Works Differently at Startups
Under Indian income tax law, an ESOP is taxed at two separate points:
- At exercise — the difference between the Fair Market Value (FMV) of shares on the exercise date and the exercise price is treated as a perquisite and taxed as salary income.
- At sale — the difference between the eventual sale price and the FMV at exercise is a capital gain, taxed based on holding period (listed or unlisted shares).
The perquisite at exercise creates an immediate tax liability — even when the employee has received shares but not yet sold them and therefore has no cash in hand. For startup employees, where shares are illiquid and there is no secondary market to sell into, this creates severe hardship: you owe tax on a perquisite, but cannot realise cash to pay it.
Section 192(1C) of the ITA 1961 introduced a deferral mechanism to address this: eligible startup employees could defer both TDS deduction and their personal tax payment until a liquidity event (sale of shares, exit from the company, or expiry of the fixed deferral window).
The ITA 2025 extends this window, but does not relax the eligibility conditions.
What Changed: The 48-Month to 60-Month Extension
Key point: The 60-month extension applies only to allotments made on or after 1 April 2026; earlier allotments remain governed by the 48-month rule under ITA 1961 Section 192(1C).
Four Non-Negotiable Eligibility Conditions
All four of the following conditions must be met. Failure on even one disqualifies the employee from deferral:
- DPIIT recognition — The employer must be recognised as a startup by the Department for Promotion of Industry and Internal Trade (DPIIT) under the Startup India initiative. This is Form DPIIT-1. Recognition alone does NOT automatically trigger the deferral.
- Section 80-IAC income-tax exemption certificate — The startup must hold a separate, valid income-tax exemption certificate under Section 80-IAC, granted by the Inter-Ministerial Board (IMB). This is a distinct approval process with its own eligibility rules and application timeline. Many DPIIT-recognised startups have never applied for or obtained this certificate — and therefore cannot claim ESOP deferral even if DPIIT-recognised.
- Incorporation date — The company must have been incorporated on or after 1 April 2016.
- Annual turnover threshold — Aggregate annual turnover must not exceed ₹100 crore in any of the previous years.
When Does the Deferral End?
Under both ITA 1961 and ITA 2025, the deferral window terminates — and TDS must be deducted or tax paid — at the earliest of:
- The 60th month from the end of the Tax Year in which shares were allotted (under ITA 2025).
- The date the employee sells or transfers the ESOP shares.
- The date the employee ceases to be employed at the startup.
Illustrative example: TechCo Pvt Ltd is a DPIIT-recognised, 80-IAC-certified Bengaluru SaaS startup. Arjun, a senior engineer, exercises 5,000 ESOPs at ₹10 each on 15 June 2026, when a SEBI-registered valuer has determined FMV at ₹310 per share. Perquisite value = (₹310 – ₹10) × 5,000 = ₹15,00,000. Under ITA 2025 Section 392(3), TechCo need not deduct TDS immediately. The deferral window runs for 60 months from the end of Tax Year 2026-27 (that is, from 31 March 2027), meaning TDS must be deposited by 31 March 2032 — or earlier if Arjun sells the shares or leaves the company, whichever occurs first.
Filing Your ITR: What You Must Do for AY 2026-27
If you exercised ESOPs in FY 2025-26 (under ITA 1961 Section 192(1C) — the 48-month window):
- Form 12BAA submission — You must have furnished Form 12BAA to your employer declaring intent to opt for deferral. The employer cannot defer TDS without receiving this form from you.
- Form 16 verification — Check Part B of your Form 16. The deferred perquisite amount should be disclosed here — not as TDS already deducted, but as a deferred item.
- ITR filing — Report the full perquisite value under Schedule S (Salary Income) in your ITR-2 or ITR-3. Even though tax is deferred, the income must be disclosed in your return.
- 80-IAC validity check — Confirm the startup's 80-IAC certificate was valid and in force on your ESOP exercise date. If it had lapsed, deferral is not available retroactively.
- FMV documentation — Retain the SEBI-registered valuer's report or Category I Merchant Banker valuation used to determine FMV on your exercise date. This is your evidence for both the perquisite amount and for any future tax authority enquiry.
Common Pitfalls to Avoid
Do not assume DPIIT recognition gives you automatic deferral rights — you must have both DPIIT recognition AND a current 80-IAC certificate. If your startup lost either certification during the deferral period, the deferral ceases immediately and TDS becomes payable in that month. If the startup's turnover exceeded ₹100 crore in any previous year, all four employees become ineligible for deferral on any future allotments.
I'm CA Harun Raaj. If this affects your company's compliance calendar or your personal ITR filing, reach out.
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See Also
Frequently asked questions
Does DPIIT recognition alone give me the ESOP tax deferral?
No. DPIIT recognition is necessary but not sufficient. Under Section 392(3) of ITA 2025 (and earlier Section 192(1C) of ITA 1961), you must hold both DPIIT recognition AND a valid Section 80-IAC income-tax exemption certificate from the Inter-Ministerial Board. These are two separate government approvals with different eligibility criteria and separate application processes.
My startup was DPIIT-recognised but never applied for 80-IAC. Can I still claim ESOP deferral?
No. Both approvals are mandatory conditions under Section 392(3) of ITA 2025. Consider applying for 80-IAC now — the income-tax exemption under Section 80-IAC (three consecutive years out of ten from incorporation) is also contingent on holding this certificate, making it valuable beyond just ESOP deferral.
Is the 60-month deferral automatic, or must the employee/employer take action?
It is not automatic. The employee must furnish Form 12BAA to the employer declaring intent to opt for deferral. The employer then reports the perquisite as deferred in Part B of Form 16. Without Form 12BAA, the employer must deduct TDS immediately.
What happens if my startup loses DPIIT recognition or 80-IAC certificate lapses during the deferral period?
The deferral ceases from the date the eligibility condition fails. The employer must immediately deduct TDS and deposit the tax in the month the condition lapses. This is a critical compliance point — consult a CA immediately if this occurs.
Does the 60-month window apply to ESOPs exercised before 1 April 2026?
No. ESOPs exercised up to 31 March 2026 are governed by Section 192(1C) of ITA 1961, which allows a 48-month deferral window. The 60-month window applies only to allotments made on or after 1 April 2026, under Section 392(3) of ITA 2025.
Must my annual turnover stay below ₹100 crore for the entire deferral period?
No. The ₹100 crore threshold is tested against previous years' turnover at the time of allotment. However, if turnover exceeds ₹100 crore in any previous year after allotment but before the deferral window closes, re-check with a CA — the aggregate turnover test may affect ongoing eligibility depending on interpretation by the tax authority.
If I sell my ESOP shares before the 60-month window ends, when must I pay the tax on the perquisite?
The deferral ends immediately upon sale of shares — that is the earliest trigger event under Section 392(3). You must report the perquisite income and pay the tax in the financial year in which you sell. You also become liable for capital gains tax on the difference between sale price and FMV at exercise.
What documents do I need to retain for ESOP tax deferral compliance?
Retain Form 12BAA (submitted to employer), Part B of Form 16 (showing deferred perquisite), the SEBI-registered valuer's FMV report or Category I Merchant Banker valuation on the exercise date, and proof of the startup's DPIIT recognition and 80-IAC certificate validity on the allotment date. These are essential if the tax authority questions your deferral claim.
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