What Startup Employees Get Wrong About Their ESOPs Before It Is Too Late To Fix It
Authored by: Abhinav Gupta
In 2022, nearly 50,000 employees at some of the world’s most valuable startups left $1.8 billion on the table. Fully vested. Already earned. Gone, because the clock ran out and nobody had explained the rules. That is not bad luck. That is a literacy problem dressed up as a finance problem.
Globally, 76% of all stock options go unexercised. In India, the number is worse, because the tax structure punishes employees who do exercise and the window to act is often shorter than a cricket season. The people losing this money are sharp. They work in product, engineering, sales, growth. They accepted equity as part of their compensation. They simply were never told what accepting it actually meant.
An ESOP Is a Promissory Note, Not a Paycheck
The grant letter arrives. The number looks good. Most employees read the headline, feel a quiet sense of ownership, and file it away. Here is what that letter actually says: the right to buy shares at a fixed price, at a future date, on specific terms, within a specific window. Until the exercise price is paid in cash and the options are formally converted, there are no shares. A Carta survey found that 13% of employees believed they already held shares when they were still sitting on unexercised options. That misunderstanding alone has cost people a significant amount of money.
In India, the standard structure runs on a four-year vesting schedule with a one-year cliff. An employee who leaves at month eleven receives nothing. After the cliff, 25% vests at once, with the remainder vesting monthly or quarterly over three more years. The grant letter rarely explains this in plain language, and HR rarely volunteers it.
The Tax Bill That Arrives Before Any Money Does
This is the part that surprises even financially literate employees. India taxes ESOPs at two completely separate moments.
The first tax hits at exercise, before a single rupee has been realised. The difference between the Fair Market Value of the share on exercise date and the price paid is treated as salary income under Section 17(2)(vi) of the Income Tax Act. At the highest bracket, the effective rate runs between 39 and 42%. The numbers are worth seeing in full: an employee exercises 10,000 shares at Rs. 10 strike price when FMV is Rs. 100. Taxable perquisite: Rs. 9,00,000. Tax at 40%: Rs. 3,60,000. Exercise cost: Rs. 1,00,000. Total cash out: Rs. 4,60,000. The shares received are in a private, unlisted company. They cannot be sold that day. Real money has been paid for paper that cannot yet be converted.
The second tax arrives at sale, as capital gains. The two liabilities are independent. A loss at sale offers no relief on the salary tax already paid at exercise. Torre Capital puts the consequence plainly: 75 to 80% of vested ESOPs across the top 100 Asian unicorns remain unexercised, representing over $30 billion in dormant equity. Employees are leaving money on the table because they cannot afford the tax bill to claim it.
A deferral benefit exists under the 2020 Finance Act, but it applies only to Section 80-IAC certified startups. Roughly 3,700 companies qualify out of over 1.9 lakh DPIIT-recognised startups. Fewer than 2% of Indian startup employees can actually use it.
The Mistakes That Quietly Drain the Value
The grant letter shows a number of options. That number means very little without the denominator. An employee holding 1,000 options out of 1,00,000 total shares owns 1%. The same 1,000 options in a company with 1,00,00,000 shares is 0.01%. Almost nobody asks for the denominator, and the denominator grows with every funding round. Typical dilution runs at approximately 20% per round at early stages. An employee holding 1% at seed would hold roughly 0.4% by Series D. Investor agreements carry anti-dilution protections. Employee option agreements do not.
The exercise window after departure is the second gap. Between 85 and 96% of option grants carry a 90-day post-termination exercise period. Three months to decide whether to pay the full exercise cost plus tax bill, for shares in a company just departed, with no guaranteed path to liquidity. In Q4 2024, employees exercised only 32.2% of fully vested, in-the-money options before expiry. Unacademy reduced its exercise window from 10 years to 30 days in December 2025, mid-M&A talks, at a 91% valuation decline from peak. Former employees had one month to make a consequential financial decision on equity that may have returned nothing regardless.
Liquidation preferences are the factor almost nobody asks about until it is too late. In any exit, investors with preferred shares are paid first. When a company raises $30 million across stacked rounds and exits at $25 million, common shareholders receive zero. Unacademy’s CEO stated it plainly in 2025: “When liquidation preference is properly enforced, ESOPs effectively become zero.”
What the Real Cases Confirm
Microsoft acquired Skype for $8.5 billion in 2011. Some employees received nothing. A clawback clause buried in a reference document allowed the company to repurchase vested shares at the original grant price. Most employees had never seen that document. Paytm employees who exercised at peak valuation paid perquisite tax on Rs. 2,150 per share pricing, then watched the stock fall to Rs. 310 following RBI action in 2024. The salary tax already paid at exercise was gone, unrecoverable. Byju’s employees who had accepted lower salaries in exchange for equity worth Rs. 1,500 crore at peak received nothing when the company collapsed.
Flipkart shows what the other outcome looks like: 19,000 employees shared $700 million in 2023, the largest ESOP liquidity event in Indian startup history. The difference across these cases was structure, company trajectory, and how well employees understood the terms they had signed.
The Questions That Almost Never Get Asked
What is the total fully diluted share count? What is the current Fair Market Value? What does the liquidation preference stack look like? What is the post-termination exercise window? Does a buyback or secondary sale policy exist? What are the tax implications at exercise, not just at sale?
A Saison Capital survey of 268 Indian startups found that 238 of them, 89%, were unaware of ESOPs and their benefits. Carta data shows that more than half of entry-level employees never exercise their in-the-money options before expiry. The literacy gap sits with employees, founders, and HR teams in equal measure. The grant letter arrives. The questions never follow. The window closes.
The equity is real. The conditions under which it becomes actual wealth are specific, time-bound, and entirely missable for anyone who stops reading at the headline number on page one.
Author Bio: Abhinav Gupta, Founder, Profitjets