ESOP Scheme Drafting & Implementation

Overview

You’ve decided to give your core team a stake in what they’re building — the offer letter is agreed, the numbers make sense, and then someone asks a question you can’t fully answer: is ESOP mandatory, and what exactly do we need to file? It isn’t mandatory. Section 62(1)(b) of the Companies Act 2013 only sets out conditions a company must satisfy if it chooses to issue further shares to employees under a stock option scheme — there is no requirement to run one. For an unlisted private Indian company, that scheme sits under Rule 12 of the Companies (Share Capital and Debentures) Rules 2014, a distinct regime from the SEBI rules that govern listed-company ESOPs.

Rule 12 defines who counts as an eligible employee: a permanent employee working in India or abroad, or a director other than an independent director — but not a promoter, anyone in the promoter group, or a director who directly or indirectly holds more than 10% of the company’s outstanding equity. That exclusion is lifted for a DPIIT-recognised startup for up to ten years from incorporation, provided the company’s turnover has never crossed ₹100 crore in any financial year — which is exactly why founder-heavy early teams routinely qualify when an ordinary private company would not. Whatever pool you carve out, Rule 12 fixes one number regardless of scheme design: a minimum of one year must pass between grant and vesting.

Approval has a wrinkle worth knowing before the board meeting, not after. Section 62(1)(b) reads as requiring a special resolution, and Rule 12 still uses that same language — a 2015 MCA exemption notification let private companies approve an ESOP scheme by ordinary resolution instead, but the rule text was never amended to match, so most private companies still pass a special resolution as the safer, better-documented route. Either way, Form MGT-14 must reach the Registrar within 30 days of that resolution, and every later allotment on exercise needs its own PAS-3 return within 30 days — filings that sit alongside the founders’ equity paperwork we also draft, including the founders’ agreement that should already address how much of the cap table an option pool is allowed to take.

Tax hits the employee at two points: the gap between fair market value on exercise and price paid is a perquisite under salary income at exercise, and further gain becomes capital gains only on eventual sale. Section 192(1C) lets a section 80-IAC eligible startup defer that TDS for up to 48 months, or until the employee sells the shares or leaves. A company avoiding a fresh share issue on every exercise can route grants through an ESOP trust under Section 67 and Rule 16(1)(a), holding shares as treasury stock. We draft the scheme, grant letters and trust structure where chosen — not tax opinions in place of your CA. CapEasy is not affiliated with the Ministry of Corporate Affairs, the Income Tax Department or any government authority.

Who it’s for

• Founders about to make their first ESOP grants and unsure whether a special or ordinary resolution applies
• DPIIT-recognised startups wanting to grant options to promoter-directors under the 10-year Rule 12 relaxation
• Companies sizing an ESOP pool ahead of a funding round, weighing dilution against what employees are being promised
• Boards deciding between a direct-issue scheme and an ESOP trust route for holding and transferring shares
• Companies that already granted options informally and now need the scheme document, SH-6 register and ROC filings in order

Eligibility & requirements

• Section 62(1)(b) of the Companies Act 2013 and Rule 12 of the Companies (Share Capital and Debentures) Rules 2014 govern ESOPs for unlisted, private companies; listed companies instead follow a separate SEBI regime for share-based employee benefits
• An eligible employee is a permanent employee working in India or abroad, or a non-independent director — promoters, promoter-group members and directors holding more than 10% of the company’s equity are excluded, unless the company is a DPIIT-recognised startup within 10 years of incorporation with turnover that has never exceeded ₹100 crore in any financial year
• A minimum of one year must pass between grant and vesting under Rule 12(6)(a), with a narrow exception where options replace those held in a predecessor company after a merger or demerger
• Options are not transferable and cannot be pledged, hypothecated or mortgaged; on an employee’s death, all options vest in the legal heirs or nominees
• Shareholder approval must disclose the total options to be granted, eligible employee classes, vesting requirements and period, exercise price or formula, exercise period and process, any lock-in, per-employee caps, the valuation method and the consequences of not exercising
• Form MGT-14 must be filed within 30 days of the shareholder resolution; Form PAS-3 within 30 days of each allotment on exercise; a Register of Employee Stock Options in Form SH-6 must be maintained and authenticated throughout

How CapEasy handles it

1. We review your cap table and hiring plan to size the option pool and set eligibility, mapping it against Rule 12’s promoter exclusion and the DPIIT-startup relaxation where you qualify
2. We draft the ESOP scheme document — pool size, vesting schedule, exercise price or formula, lock-in, per-employee caps and lapse conditions — for your board to review
3. Your board approves the draft scheme, shareholders pass the resolution, and we file Form MGT-14 within the 30-day window
4. We prepare grant letters for each eligible employee under the approved scheme and set up the SH-6 option register
5. On exercise, your board passes the allotment resolution and we file Form PAS-3 within 30 days, updating the SH-6 register and the register of members
6. Where a trust route is chosen, we structure the ESOP trust under Section 67 and Rule 16(1)(a), including the company loan that funds it
7. We hand over a compliance calendar covering vesting dates, exercise windows and the TDS trigger events under section 192(1C) where deferred-tax eligibility applies

Documents you’ll typically need

• Latest capitalisation table and shareholding pattern
• Board resolution approving the draft ESOP scheme
• List of proposed eligible employees with designation, joining date and, where relevant, DPIIT recognition certificate
• Latest audited financials or provisional accounts, to confirm the ₹100 crore turnover threshold for the startup relaxation
• Existing employment agreements or offer letters that reference equity, if any
• Company’s MOA/AOA, to confirm authorised share capital headroom for the pool
• Prior ESOP scheme documents and SH-6 register, if options have already been granted

CapEasy is a private consultancy and is not affiliated with any government authority. We help you assess eligibility and prepare and file your application; eligibility and approval depend on your specifics and the relevant department’s discretion.