Employees of recognised startups who exercise ESOPs often face a tax bill on paper profits they cannot actually access, since the shares are not yet liquid. Section 192(1C) offers a partial fix by letting eligible startup employees defer the TDS on ESOP perquisite for up to five years.
The Core ESOP Tax Problem
When an employee exercises ESOP options, the difference between the fair market value (FMV) of the shares on the exercise date and the price actually paid (the exercise price) is treated as a perquisite under Section 17(2)(vi) and taxed as salary income in the year of exercise. For employees of unlisted startups, this creates a cash-flow mismatch: tax is due on a notional gain even though the shares cannot be sold in the open market, since there is no liquid trading venue for unlisted shares.
Section 192(1C): A Targeted Relief for Eligible Startups
To address this, the Finance Act 2020 inserted Section 192(1C), which allows employers that qualify as an eligible start-up under Section 80-IAC to defer the TDS deduction on ESOP perquisite. Instead of deducting TDS in the year of exercise, the employer can defer the deduction until the earliest of three trigger events.
The Three Trigger Events for Deferred TDS
- Five years from the end of the relevant assessment year in which the shares were allotted, whichever comes first among the three triggers
- The date the employee sells the shares, whether in part or full, in which case TDS becomes due immediately on the portion sold
- The date the employee ceases to be an employee of the company, for example on resignation, retirement or termination
Whichever of these three events occurs first is the point at which the employer must deduct and deposit the TDS that was deferred, based on rates applicable in the year of exercise.
Eligibility Conditions for the Employer
Important: This deferral is available only if the employer is registered as an eligible start-up under Section 80-IAC of the Income Tax Act, which itself requires DPIIT recognition, incorporation within the prescribed period, and turnover not exceeding the prescribed limit (Rs 100 crore in the year of claim, as per the latest extension). Employees of startups that are DPIIT-recognised but have not specifically obtained the Section 80-IAC eligible-startup certification from the Inter-Ministerial Board do not qualify for this deferral.
What Exactly Gets Deferred?
It is important to understand that Section 192(1C) defers only the TDS deduction by the employer, not the taxability itself. The perquisite value is still computed and the income is still considered to have accrued in the year of exercise for the purposes of the taxable event under Section 17(2)(vi). What changes is the timing of the actual cash outflow as TDS, giving the employee breathing room of up to five years (or earlier, if they sell shares or leave the company) before the tax must actually be paid.
Worked Example
Priya exercises ESOPs at an eligible startupPriya, an employee at a DPIIT-recognised and Section 80-IAC certified startup, exercises 1,000 ESOP options in FY 2024-25 at an exercise price of Rs 10 per share when the FMV is Rs 210 per share. The perquisite value is Rs 200 per share x 1,000 = Rs 2,00,000, which would normally attract immediate TDS as part of her salary TDS for that year. Under Section 192(1C), her employer can defer this TDS. If Priya continues working at the company and does not sell any shares, the deferred TDS becomes due at the end of the fifth year from the assessment year of allotment. If she resigns in year 3, the deferred TDS becomes payable at that point, based on the FMV and exercise price figures locked in at the original exercise date.
What Happens at the ITR Filing Stage
Even though TDS is deferred, the perquisite income itself must still be reported in the employee's ITR for the year of exercise, under the head Salaries. The employee's Form 16 issued by the employer will typically show this income along with a note on the deferred TDS amount and the applicable trigger date. Employees should retain records of the exercise date, FMV certificate (usually a Section 56(2)(viib) merchant banker valuation) and exercise price, since these figures determine both the original perquisite and any deferred tax liability.
Capital Gains on Eventual Sale Remain Separate
When the shares are eventually sold, a second and entirely separate tax event arises: capital gains, computed as the difference between the sale price and the FMV on the date of exercise (which becomes the cost of acquisition for capital gains purposes, not the original exercise price paid). This capital gains tax is in addition to, and independent of, the Section 17(2)(vi) perquisite tax already accounted for at exercise.
Frequently Asked Questions
Does Section 192(1C) reduce the amount of tax payable on ESOPs? ▼
No. It only defers the timing of the TDS deduction by the employer, by up to five years or until an earlier trigger event such as resignation or sale of shares. The total perquisite value remains taxable as salary income for the year of exercise, and the eventual tax amount is computed using the rates applicable to that original year, not the year of actual payment.
What happens if my eligible startup loses its Section 80-IAC status during the deferral period? ▼
The deferral benefit is generally tied to the employer's eligible-startup status at the time the ESOP perquisite arose. If the company subsequently loses its certification, this does not typically reopen or accelerate deferrals already validly granted for prior exercises, but employees should check with their employer's payroll and tax team for the specific treatment in their case, as this is a relatively unsettled area of practice.
Can I choose not to defer the TDS and pay it upfront instead? ▼
The deferral under Section 192(1C) is generally implemented at the employer's discretion as part of payroll TDS policy. Some employees prefer to pay tax upfront in the year of exercise, particularly if they expect to be in a lower tax bracket later or want to avoid a larger lump-sum liability at the trigger event. Discuss this preference with your employer's HR or finance team at the time of exercise.