Pauline E. Ranger Your employer may reward you if you’re a salaried worker or a director. This could include Employee Stock Option Plans (ESOPs) and Restricted Stock Units. It would help to compare RSUs and ESOPs to ensure you get the most out of your shares.
RSUs and ESOPs both offer shares to employees in exchange for incentives. Looking closer, you will see that ESOPs are different from RSUs in several important ways.
Understanding what ESOPs and RSUs are essential to make these distinctions is necessary. Let’s start there.
What are ESOPs
Employee Stock Options Plans (ESOPs) are schemes that companies launch to give certain employees the opportunity to buy stocks at a discounted price. The price and the date at which eligible employees will be able to exercise their ESOP are predetermined.
ESOPs are usually subject to a vesting phase. This vesting period ends at the future date when employees will be able to purchase shares with their ESOPs. It is called the vesting period. During the vesting period, it is essential that employees continue to work at the company. They cannot terminate their employment during this time. Then, and only then, can the employee exercise their right to buy the shares through the ESOP.
The vesting period usually lasts at least one year to ensure that the company does not give valuable equity to employees who are only there for a short time. Employees can exercise their options on the vesting date and buy the shares of the company if they find it beneficial. Exercise of ESOPs can be helpful if the grant prices of the percentages are significantly lower than their market value on the vesting day.
An example of ESOPs in action
Imagine you are a member of a company that has just launched an ESOP.
Employees who qualify will receive 100 options by April 1, 2022
The vesting period for ESOPs is three years
The grant price per share is Rs. The grant price is Rs.
You will receive 100 ESOPs if you are an eligible employee. On April 1, 2025 – three years after the ESOP’s issue date – you can exercise your options. If the share price is higher than the grant price, you can exercise your choices. You can buy shares for less than Rs. 200 using your ESOPs. If the market price is lower than the grant price, you can use your ESOPs to purchase the shares at a lower price. You can exercise your ESOPs later if the market price rises.
What is an RSU
RSUs, or Restricted Stock Units, are shares that companies give to their employees as compensation. These units can be part of an offer to hire or offered to current employees. Employees who receive RSUs as a benefit from their employer must hold on to the shares during a vesting period. After this period, employees can sell their shares for a profit.
RSUs may be issued as shares or cash equivalents. The decision can be made by the employee or employer, depending on the conditions of the RSU. These stock units may also come with a variety of restrictions.
Restriction based on timeAs mentioned above, some RSUs cannot be sold until a certain period has passed. The limits are based on time, and employees must remain with the company for the entire vesting period to unlock their RSUs.
Milestone-based restrictions
Some RSUs have milestone-based limitations, which means that they can only sell after they reach a particular milestone within the company. It encourages and motivates employees to do better.
Restrictions based on time and milestones
You may have guessed that these restrictions include both a vesting period and a milestone. RSUs can only be sold after an employee has reached the milestone and after the vesting period.
An example showing how RSUs operate
Imagine you are a sales manager at a company that has issued RSUs that have the following details:
You can get 100 shares of the company.
The restriction is based on milestones.
To unlock the restrictions, you need to reach a revenue of Rs. To open the limits, you need to contact a sales figure of Rs.
Let’s say you reach this sales number 18 months after receiving the RSUs. Then, you can decide whether to sell or hold the stock based on market conditions at the time.
Summary
Here are the main differences between ESOPs vs. RSUs. It is essential to take advantage of any benefits that your company may offer, as both ESOPs and RSUs, can be very beneficial for employees. Remember that RSUs and ESOPs will be taxed according to the Income Tax Act of 1961.
If the holding period of listed companies is less than a year, the short-term capital gain tax (STCG) of 15% is levied. If the shares are held longer than a year, there is no tax. Gains on shares of unlisted companies are taxed according to the applicable slab rate if held for less than a year. Or at 20% indexation if held for more than a year.
