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ESOP vs RSU: Key Differences Every Employee Should Know

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ESOP vs RSU: Key Differences Every Employee Should Know

Equity compensation has become a core part of job offers, especially in startups and tech companies. It’s not just about salary anymore—employees want a stake in the company’s success. Two of the most common equity instruments are ESOPs (Employee Stock Option Plans) and RSUs (Restricted Stock Units).

While both provide ownership opportunities, they work very differently. Understanding the difference between ESOP and RSU is crucial whether you are joining a startup, negotiating an offer, or simply trying to make sense of your compensation plan.

This guide explains ESOPs, RSUs, their taxation, and which one might be better for you.

What is an ESOP?

Employee Stock Option Plan (ESOP) gives employees the option to buy company shares at a fixed price (called the exercise price or strike price) after a vesting period.

  • Grant: Employees are granted options, not shares.

  • Vesting: Typically spread over 3–4 years with a 1-year cliff.

  • Exercise: Once vested, employees must pay the strike price to convert options into shares.

  • Liquidity: Shares gain value only if the company grows and offers an exit (IPO, buyback, or acquisition).
    ⁠
    Example: If the strike price is ₹100 and at IPO the share price is ₹500, you can exercise and earn ₹400 per share.

What is an RSU?

Restricted Stock Units (RSUs) are company shares granted directly to employees, subject to a vesting schedule. Unlike ESOPs, employees don’t need to pay anything to own the shares.

  • Grant: Commitment to give shares, not options.

  • Vesting: Based on time or performance milestones.

  • No Exercise Price: Employees don’t buy shares; they receive them.

  • Liquidity: Shares may still be subject to restrictions on selling until IPO or exit.
    Example: If you are granted 1,000 RSUs, you simply receive 1,000 shares when vested.

ESOP vs RSU: A Quick Comparison

Feature

ESOP (Employee Stock Option Plan)

RSU (Restricted Stock Unit)

Ownership at Grant

Options, not shares

Actual shares (on vesting)

Cost to Employee

Must pay strike price

No cost, shares are given

Risk

Options can expire worthless

Always has some value

Taxation (India)

Tax at exercise + capital gains at sale

Tax at vesting + capital gains at sale

Liquidity

Requires exit event to sell shares

Shares given, but may be restricted until exit

Common in

Startups, growth-stage firms

Large, listed companies


Taxation Difference in India

Tax treatment is a major factor in choosing between ESOPs and RSUs.

When you sell ESOPs, there are actually two steps involved: exercise and sale.

1) Exercise

  • You convert your vested options into shares by paying the exercise (strike) price.

  • At this point, the difference between the fair market value (FMV) and the strike price is treated as a perquisite (salary income) and taxed.

  • Example: Strike price ₹100, FMV ₹400. You pay ₹100 to exercise, and ₹300 per share is taxed as income.

2) Sale

  • Later, when you sell those shares (to investors, in a buyback, IPO, or secondary transaction), you pay capital gains tax.

  • Capital gain = Sale price – FMV at the time of exercise.

If you sell immediately after exercising, this gain might be small. If you hold and sell later at a higher price, the gain can be larger.


⁠When you sell RSUs, there are actually two steps involved: vesting and sale.

1) Vesting (treated as income)

  • When RSUs vest, they automatically convert into company shares.

  • The fair market value (FMV) of those shares on the vesting date is taxed as salary income.

  • Example: You are granted 1,000 RSUs. On vesting, FMV is ₹400. You receive shares worth ₹4,00,000. That entire amount is taxed as income in that year.

2) Sale (capital gains)

  • When you sell those shares (in IPO, buyback, or secondary), the difference between the sale price and the FMV on vesting is taxed as capital gains.

Example: If you sell later at ₹500 per share, your capital gain is ₹100 per share. That gain is taxed separately (short-term or long-term depending on how long you held after vesting).

Which is Better: ESOP or RSU?

It depends on your situation:

  • ESOPs are high-risk, high-reward. Perfect for employees joining early-stage startups that may grow exponentially.

  • RSUs are lower-risk. They guarantee shares on vesting and are common in large companies with stable valuations.
    ⁠

FAQs on ESOPs and RSUs

Q1. What is the main difference between ESOP and RSU?
 ESOPs give the right to buy shares at a fixed price, RSUs grant actual shares after vesting.

Q2. Do employees need to pay for ESOPs and RSUs?
 Yes for ESOPs (exercise price), no for RSUs.

Q3. Which is better for employees?
 ESOPs offer higher upside but carry risk, RSUs are safer and guaranteed.

Q4. How are ESOPs taxed in India?
 At exercise (salary tax) and at sale (capital gains).

Q5. How are RSUs taxed in India?
 At vesting (salary tax) and at sale (capital gains).

Q6. What happens to unvested ESOPs or RSUs if I resign?
 Unvested options or shares are forfeited. Vested ones depend on company policy.

Q7. Can ESOPs or RSUs make me rich?
 Yes, if the company grows and valuation soars. Many startup employees have created wealth through ESOPs and RSUs.

Q8. Which companies usually give ESOPs and RSUs?
 Startups and growth firms give ESOPs, large listed companies give RSUs.

Both ESOPs and RSUs are valuable, but they are not the same. Before signing an offer letter, ask about vesting schedules, strike prices, taxation, and exit opportunities. Equity can be a wealth-creation tool if you understand the fine print.

If you’re joining a startup, ESOPs may give you huge upside. If you’re at a listed company, RSUs provide security and guaranteed ownership.

In either case, treat equity as part of your compensation, not just a bonus.