Legal basis: Section 392(3) read with Section 289(3), Income-tax Act, 2025 — Effective: April 1, 2026. Transitional provisions: Section 192(1C), Income-tax Act, 1961 for allotments before April 1, 2026. Source: Income-tax Act 2025 (official text); DPIIT startup recognition criteria. Last reviewed by CA Harun Raaj: December 2024.
The Income-tax Act, 2025 (effective April 1, 2026) introduces a critical change for startup employees holding ESOPs: the TDS deferral window has been extended from 48 months to 60 months under Section 392(3) read with Section 289(3). But this relief comes with a strict dual condition, and misunderstanding it can trap your company in compliance failures and employees in unexpected tax demands.
Why ESOP Taxation Creates a Cash Crisis
When you exercise an ESOP, you receive no cash—only shares. Yet the Income-tax Act treats the difference between the fair market value (FMV) on the exercise date and your exercise price as a perquisite, taxable immediately under Section 289(3) of ITA 2025 (successor to Section 17(2)(vi) of the 1961 Act). For a mid-level startup employee exercising ₹50 lakh worth of options, this can mean a tax bill of ₹15–20 lakh at a 30% slab plus surcharge, with zero liquidity to pay it.
The deferral provision was designed to solve this: it allows your employer to defer TDS collection until a triggering event (share sale, resignation, or window expiry). But the eligibility threshold is far stricter than most assume.
The Non-Negotiable Dual Condition
This is the most commonly misunderstood aspect of the new rule. The deferral under Section 392(3) ITA 2025 requires both of the following conditions to be met—not just one:
- DPIIT Recognition: Your startup must hold a valid Department for Promotion of Industry and Internal Trade (DPIIT) recognition certificate under the February 4, 2026 notification (or predecessor recognised framework).
- Inter-Ministerial Board (IMB) Certification: Your startup must also hold a separate, valid IMB certification—an approval granted by the Inter-Ministerial Board that assesses innovation and technology-led growth potential.
Critical: DPIIT recognition alone is not sufficient. If your startup has only DPIIT recognition but no IMB certification, the deferral does not apply, and TDS must be deducted normally at the time of exercise. Verify both certificates with your company's CA or CFO before assuming you are eligible.
What Changed Under ITA 2025: The 48-to-60-Month Extension
For AY 2026-27 filers: If your ESOP was allotted before April 1, 2026, the 48-month window under IT Act 1961 transitional provisions continues to apply. The 60-month extension is available only for allotments on or after April 1, 2026, under the ITA 2025 framework.
Key point: The dual condition (DPIIT recognition + IMB certification) has not changed, but the deferral window has extended from 48 to 60 months for post-April 2026 allotments.
Who Must Take Action Before AY 2026-27
Startup employees exercising ESOPs in FY 2025-26: Report the perquisite income (FMV minus exercise price) under the 'Salary' head in ITR-2 or ITR-3. If your employer applied deferral, ensure that both DPIIT recognition and IMB certification were in place at the time of exercise. Form 16 from your employer should clearly state whether deferral was applied.
Payroll and HR teams at eligible startups: Update Form 16 to reflect deferral status and triggering events. Track the date each employee's deferral window begins and ends (48 or 60 months, depending on allotment date). Create a log of events that trigger TDS collection (share sales, resignations, IPOs, window expiry).
Founders and company secretaries allotting new ESOPs on or after April 1, 2026: Update ESOP scheme documents to reference the extended 60-month window under Section 392(3) ITA 2025. Ensure all new ESOP allotment letters clearly state the deferral window and conditions.
Practical Compliance Checklist
- Verify dual eligibility: Confirm in writing from your CFO or CA that both DPIIT recognition certificate and IMB certification are current and valid on the date of exercise.
- Identify allotment date: Determine whether the ESOP was allotted before or after April 1, 2026—this governs which statute applies (48-month or 60-month window).
- Calculate perquisite income: FMV on exercise date (determined by a SEBI-registered independent valuer for unlisted company shares, or Rule 11UA method) minus exercise price equals taxable perquisite.
- File ITR correctly: Report perquisite under 'Salary' in ITR-2 (salaried employees) or ITR-3 (if you have business income). Cross-check Form 16 from your employer.
- Track trigger dates: Document the date each deferral window ends (exercise date + 48 or 60 months). Also log any triggering event: share sale, resignation, or listed IPO. TDS must be deposited with the income-tax authority within 7 days of trigger.
- Plan for capital gains: When you eventually sell the shares, short-term or long-term capital gains tax applies based on holding period from allotment date (not exercise date). Consult your CA on tax planning.
FAQ
[{
"question": "My startup has DPIIT recognition but no IMB certification. Can I defer TDS on ESOP exercise?",
"answer": "No. Section 392(3) ITA 2025 requires both DPIIT recognition AND IMB certification. DPIIT recognition alone is not sufficient. Without IMB certification, the deferral does not apply and TDS must be deducted at the time of exercise. Confirm your company's IMB status with your CA before exercising."
}, {
"question": "I exercised ESOPs in February 2026. Is the 60-month window or the 48-month window applicable?",
"answer": "The 48-month window under Section 192(1C) of IT Act 1961 applies because your ESOP was allotted before April 1, 2026. The 60-month window under ITA 2025 s.392(3) applies only to shares allotted on or after April 1, 2026. Check your original allotment letter for the allotment date."
}, {
"question": "At what tax rate will TDS be collected when my deferral window ends?",
"answer": "The perquisite is taxed as income under 'Salaries' at your applicable slab rate for the financial year in which you exercised the ESOP (not the year TDS is collected). Advance tax liability must be assessed for the exercise year. Consult your CA to plan advance tax in the exercise year."
}, {
"question": "My startup went public via IPO after I exercised ESOPs. Does the deferral still apply?",
"answer": "Once your startup lists on a stock exchange, it is no longer an eligible startup for the purpose of the deferral. The deferral applies as long as the eligible startup conditions are met at the time of exercise. For ESOPs exercised after IPO, normal perquisite tax rules apply without deferral, and shares are valued at IPO price or market price."
}, {
"question": "I left my startup before my deferral window ended. What happens to the TDS deferral?",
"answer": "Resignation or termination is a triggering event under Section 392(3) ITA 2025. The deferral window ends immediately upon your separation, and TDS must be deposited by your former employer within 7 days. The tax is calculated as of your resignation date, not the original exercise date."
}, {
"question": "How is the FMV of shares determined for unlisted startup companies?",
"answer": "For unlisted company shares, FMV must be determined by an independent SEBI-registered valuer or, in certain cases, under the Safe Harbour Method (Rule 11UA). The valuation method must comply with the Transfer Pricing rules. Ask your company for the valuation certificate used for ESOP exercise."
}, {
"question": "If I sell my shares during the deferral window, when must TDS be paid?",
"answer": "Share sale is a triggering event. The deferral window ends immediately, and TDS on the original perquisite must be deposited within 7 days of sale. Additionally, capital gains tax (short-term or long-term) applies on the gain from sale price over the FMV on exercise date."
}]
I'm CA Harun Raaj. If your startup is allotting ESOPs post-April 2026 or your employees are filing ESOP perquisites for AY 2026-27, I can help verify dual eligibility, structure Form 16 filings, and track deferral windows on a flat-fee basis.
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See Also
Frequently asked questions
My startup has DPIIT recognition but no IMB certification. Can I defer TDS on ESOP exercise?
No. Section 392(3) ITA 2025 requires both DPIIT recognition AND IMB certification. DPIIT recognition alone is not sufficient. Without IMB certification, the deferral does not apply and TDS must be deducted at the time of exercise. Confirm your company's IMB status with your CA before exercising.
I exercised ESOPs in February 2026. Is the 60-month window or the 48-month window applicable?
The 48-month window under Section 192(1C) of IT Act 1961 applies because your ESOP was allotted before April 1, 2026. The 60-month window under ITA 2025 s.392(3) applies only to shares allotted on or after April 1, 2026. Check your original allotment letter for the allotment date.
At what tax rate will TDS be collected when my deferral window ends?
The perquisite is taxed as income under 'Salaries' at your applicable slab rate for the financial year in which you exercised the ESOP (not the year TDS is collected). Advance tax liability must be assessed for the exercise year. Consult your CA to plan advance tax in the exercise year.
My startup went public via IPO after I exercised ESOPs. Does the deferral still apply?
Once your startup lists on a stock exchange, it is no longer an eligible startup for the purpose of the deferral. The deferral applies as long as the eligible startup conditions are met at the time of exercise. For ESOPs exercised after IPO, normal perquisite tax rules apply without deferral, and shares are valued at IPO price or market price.
I left my startup before my deferral window ended. What happens to the TDS deferral?
Resignation or termination is a triggering event under Section 392(3) ITA 2025. The deferral window ends immediately upon your separation, and TDS must be deposited by your former employer within 7 days. The tax is calculated as of your resignation date, not the original exercise date.
How is the FMV of shares determined for unlisted startup companies?
For unlisted company shares, FMV must be determined by an independent SEBI-registered valuer or, in certain cases, under the Safe Harbour Method (Rule 11UA). The valuation method must comply with Transfer Pricing rules. Ask your company for the valuation certificate used for ESOP exercise.
If I sell my shares during the deferral window, when must TDS be paid?
Share sale is a triggering event. The deferral window ends immediately, and TDS on the original perquisite must be deposited within 7 days of sale. Additionally, capital gains tax (short-term or long-term) applies on the gain from sale price over the FMV on exercise date.
Can I claim deduction for ESOP perquisite income?
No. The ESOP perquisite is taxable income under 'Salaries' with no corresponding deduction available. However, when you sell the shares, you can claim the cost of acquisition (including the perquisite value) against capital gains. Discuss tax-planning strategies with your CA to optimise hold period and timing of sale.
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