Does a DPIIT-recognised startup get any exemptions from the four Labour Codes?

DPIIT recognition confers certain tax benefits (Section 80-IAC) and regulatory facilitations under the Startup India programme, but does not create blanket exemptions from the Labour Codes. The four Labour Codes apply based on headcount thresholds, not startup recognition status. However, some states have issued notifications under Startup India that defer or simplify inspection and self-certification requirements for startups, for example allowing startups to file self-certified compliance reports rather than being subject to routine inspection for a defined period. These state-level facilitations vary and should be checked for each state of operation. The underlying compliance obligations (PF, ESI, minimum wage, etc.) remain unchanged.

When does the 50% basic wage rule apply, and how is it calculated?

The 50% basic wage rule under the Code on Wages requires that the sum of basic pay and dearness allowance (if any) must constitute at least 50% of an employee's total gross wages. Total gross wages for this purpose means all remuneration paid in cash, excluding specific exclusions listed in Section 2(y) of the Code: HRA, overtime wages, bonus (non-statutory), employer PF contribution, conveyance allowance, and certain other specific payments. In a typical startup CTC of ₹1,00,000 per month, if basic pay is ₹25,000 and the rest is allowances, the basic pay (25%) does not meet the 50% threshold. The basic pay must be restructured to at least ₹50,000. The PF contribution base rises correspondingly, increasing the employer's PF outgo.

Are ESOPs treated as wages under the Labour Codes?

Currently, ESOPs are not expressly included in the definition of "wages" under the Code on Wages (Section 2(y)). The wage definition covers remuneration payable in cash or kind, but specifically excludes the value of house accommodation, supply of light, water, electricity, medical attendance, and allowances specifically listed. The EPFO has historically taken varying positions on whether ESOP exercise gains should be treated as wages for PF purposes, and the matter has been litigated without a definitive Supreme Court ruling. The safe position is that ESOP grants and exercise gains are not wages, provided the employee's cash compensation is independently at market rate. If ESOPs are effectively compensating for below-market cash pay, the risk of regulatory characterisation as wages is higher.

What are the compliance obligations when a startup hires its first employee in a new state?

When a startup opens operations or hires an employee in a new state, the following minimum steps apply: (1) Register the establishment under the relevant state's Shops and Establishments Act within the prescribed period (typically 30 days of commencing business at that location). (2) If the establishment in that state has 10 or more employees, register for ESI under the Code on Social Security for that state's operations. (3) If the establishment has 20 or more employees, register for EPF. (4) Comply with the applicable state minimum wage schedule for the job categories employed. (5) Register under the applicable state's professional tax provisions if that state levies professional tax. Each state has its own Shops and Establishments Act with different timelines and procedures, so state-specific advice is required.

How should a startup handle compliance when it needs to let people go during a downturn?

For startups with fewer than 300 workers (the new IR Code threshold), no prior government permission is required for retrenchment. The following minimum requirements apply regardless of company size: (1) Provide the statutory retrenchment notice or pay in lieu: one month's notice or wages in lieu for workers who have completed one year of continuous service. (2) Pay retrenchment compensation at 15 days' wages for every completed year of service to all workers with one or more year of continuous service. (3) Provide written reasons for retrenchment. (4) Follow the "last in, first out" principle for selecting who is retrenched, unless departure from this principle is justified and documented. Fixed-term employment, if properly structured, ends at term without any of these retrenchment formalities, underscoring the importance of using FTE contracts for hiring in uncertain business phases.

Does the 50% basic wage rule apply to interns, consultants, and part-time staff?

The 50% basic wage rule applies to "wages" as defined under the Code on Wages, which covers remuneration payable to employees. Its application depends on whether the person is an employee or an independent contractor. Interns engaged under a stipend arrangement and not classified as employees may fall outside the Code's wage provisions, though the minimum wage provisions of the Code apply to any "employee" regardless of job title. Consultants and freelancers engaged as independent contractors are outside the employee definition, and the wage provisions do not apply to their engagement fees. Part-time employees who are employees are covered, and the 50% rule applies to their wages proportionately. The classification of each engagement type is a factual question.

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Startups & Early-Stage Companies

Simplified Compliance, First-Time Registrations, CTC Structuring & Rapid Scaling

Industry Guide14 min readLast updated: February 2026

300

worker threshold under the IR Code for prior government permission for layoffs/retrenchment: startups below this operate with full flexibility

20 / 10

employee thresholds triggering mandatory EPF and ESI registration respectively; both apply regardless of startup stage or funding status

50%

minimum share of wages that must constitute "basic + dearness allowance"; ESOP and allowance-heavy CTC structures must be stress-tested against this rule

₹21,000

monthly wage ceiling for mandatory ESI coverage; employees earning above this are exempt from ESI but must be covered by alternate health insurance

Overview

Startups and early-stage companies often operate in a compliance vacuum, with founders focused on product and growth while labour law obligations accumulate unaddressed. The four Labour Codes restructure the compliance landscape in ways that are simultaneously more startup-friendly (higher thresholds, simplified processes) and more demanding (new obligations that apply from the first employee). The Code on Wages applies to every employer with at least one worker. There is no minimum headcount exemption for minimum wage, timely payment, or equal remuneration. The Industrial Relations Code raises the threshold for standing orders and prior government permission for layoffs to 300 workers, giving startups substantial operational flexibility during their growth phase. The Code on Social Security continues EPF coverage from the 20-employee threshold and ESI from 10 employees, but introduces new registration and benefit portability features that affect how startups manage workforce mobility. The OSH Code applies to commercial establishments of qualifying size and to startups that operate workplaces with specific hazards. For founders, a critical early question is the employment status of the founding team itself, as co-founders who are both shareholders and working in the company occupy a legally ambiguous position. ESOPs, a primary retention tool for startups, create complex interactions with the wage definitions under the Code on Wages and the Social Security Code: whether ESOP exercise gains form part of "wages" for PF calculation purposes is unresolved and carries significant financial exposure. Rapid headcount scaling (a defining feature of successful startups) triggers new compliance thresholds often without warning, and the transition from 10 to 20 to 100 to 300 employees each triggers new obligations that must be activated before, not after, the threshold is crossed.

Code on Wages, 2019

The Code on Wages applies to every employer with even one worker. There is no minimum headcount exemption. Minimum wage, timely payment, and equal remuneration obligations apply from the first hire.
The 50% basic wage rule requires that at least 50% of total wages (basic pay + dearness allowance) constitute the base for PF and gratuity calculations. Startup CTC structures that maximise allowances (HRA, LTA, meal cards, fuel, phone) to suppress basic pay must be redesigned.
ESOPs are currently excluded from the definition of "wages" under the Code (they are capital instruments, not salary), but the boundary is contested: where ESOPs are used as a substitute for market salary, regulators and courts may treat economic benefits differently. Seek legal advice before treating ESOP grants as a wage substitute.
Piece-rate or output-based pay structures for engineering or design roles must still result in total earnings at or above the applicable minimum wage for that role classification.
Variable performance pay (bonuses, incentive pay) forms part of wages if it is earned as a matter of right rather than discretionary. Poorly drafted incentive plans create unintended wage liability.
Equity compensation paid to founding team members who are also employees does not form part of wages, but the salary component of a founder-employee's CTC must comply with all Code on Wages requirements.

The Code on Wages is a Day 1 obligation for every startup. The 50% basic wage rule is the most impactful provision: most startup CTC structures, designed to maximise take-home pay through allowances, must be restructured. The earlier this is done, the lower the cost of retrospective correction.

Startups that structure CTC with low basic pay and high allowances to minimise PF contributions will face mandatory restructuring under the 50% basic wage rule. The EPFO is actively auditing high-growth companies, and retrospective PF demands with interest and penalty can be financially crippling at early stages.

Industrial Relations Code, 2020

Standing Orders (formalised service conditions) are mandatory only for establishments with 300 or more workers, a significant increase from the earlier 100-worker threshold. Startups below 300 employees are exempt from certified Standing Orders, though having documented HR policies is still strongly advisable.
Prior government permission for retrenchment and layoffs is required only for establishments with 300 or more workers, giving startups at growth stage the flexibility to right-size without administrative process.
Fixed-term employment under the IR Code allows startups to engage employees for specific projects, funding tranches, or business phases without creating permanent employment. FTE employees accrue all benefits (PF, ESI, gratuity on pro-rata basis) but the engagement ends without retrenchment formalities.
Grievance redressal committees (GRC) are mandatory for establishments with 20 or more workers. Startups crossing this threshold must formally constitute a GRC, a step frequently missed during rapid growth.
The IR Code's definition of "worker" (workman) excludes persons employed in a supervisory or managerial capacity earning above a wage threshold (currently under discussion). Most startup employees with individual contribution targets may qualify as workmen regardless of job titles.
Co-founders employed in the company are employees for IR purposes if they are under a contract of service. Equity ownership alone does not determine employment status; the nature of the engagement is determinative.

The IR Code's higher thresholds give startups meaningful operational flexibility during the growth phase. The critical threshold to monitor is 300 workers (for standing orders and retrenchment permission) and 20 workers (for GRC). Fixed-term employment is the most valuable new tool for milestone-based and project-based startup hiring.

Fixed-term employment is ideal for startup pilot hires, fundraise-dependent roles, or project-specific positions. Structure FTE contracts carefully to clearly define the term, deliverables, and end conditions. A well-drafted FTE contract avoids permanent employment obligations while providing the employee with full pro-rata benefits.

Code on Social Security, 2020

EPF registration is mandatory once the establishment employs 20 or more persons (including contract workers). Registration must occur within 30 days of crossing the threshold, not at the next payroll cycle.
ESI registration is mandatory once the establishment employs 10 or more persons in a notified area. The wage ceiling (₹21,000/month) determines which employees are covered. Employees above the ceiling should be provided equivalent health insurance.
The Social Security Code introduces portability for PF accounts through the Universal Account Number (UAN) system, which is important for early startup hires who may have multiple prior employments and require PF account consolidation.
Gratuity under the Payment of Gratuity Act (subsumed by the Social Security Code) is payable after five years of continuous service. Startups rarely provision for gratuity liability; as the company matures and early employees approach the five-year mark, unprovisioned gratuity creates a significant off-balance-sheet liability.
ESOP exercise gains are not currently treated as "wages" for PF purposes under the Social Security Code, but the EPFO has in the past issued circulars taking a different view. The legal position is unsettled, and companies with large ESOP programmes should obtain a specific legal opinion and monitor EPFO guidance.
Startup employees who are DPIIT-recognised startup founders receiving sweat equity may face scrutiny on whether those benefits constitute wages. The safe harbour is limited, and case-by-case analysis is necessary.

EPF and ESI registration triggers at 20 and 10 employees respectively are the most frequently missed compliance thresholds in startups. Gratuity provisioning is structurally overlooked and becomes a cash-flow crisis when senior early employees resign or are retrenched after five years. ESOP interaction with social security definitions requires proactive legal structuring.

KSK advises early-stage companies on structuring ESOP plans and founder compensation in a manner that minimises unintended labour law exposure. ESOP structuring at Series A or earlier is significantly cheaper than correcting misclassification at Series C when the numbers are larger.

OSH Code, 2020

The OSH Code applies to commercial establishments of qualifying size (typically 10 or more workers in most states under current Shops and Establishments Acts, which run in parallel until states transition to the OSH Code framework).
For tech startups in office environments, the primary OSH obligations are: adequate lighting, ventilation, sanitation facilities, first-aid kits, and ergonomic workstations. These apply from the point of hiring staff into a physical workspace.
Startups in manufacturing, hardware, or lab environments face the full weight of OSH provisions applicable to factories and are required to register under the Factories Act (subsumed by the OSH Code) upon commencing manufacturing operations.
Women employees at startups are entitled to maternity benefits under the Maternity Benefit Act (subsumed by the Social Security Code): 26 weeks of paid maternity leave for the first two children. This applies to establishments with 10 or more employees, regardless of the startup's stage.
Crèche facilities are mandatory at establishments employing 50 or more women workers, a threshold most early-stage startups will not reach, but one to monitor in companies with a majority-female workforce.
Remote work and hybrid arrangements do not eliminate OSH obligations; employers have a duty to provide ergonomic guidance and equipment for home workstations, and occupational health risks (screen fatigue, musculoskeletal disorders) must be addressed in the employer's health and safety policy.

OSH obligations for office-based startups are relatively light but are not zero. Maternity benefits from the 10-employee threshold and basic workplace safety standards apply universally. Manufacturing startups face the full Factories Act framework and should engage a qualified safety consultant from day one of production operations.

Maternity benefit (26 weeks paid leave for first two children) applies from 10 employees. Budget for maternity leave replacement costs and provision this liability in your financial model from the point you reach the threshold. It will arrive faster than founders expect.

Compliance Checklist

Register for EPF within 30 days of reaching 20 employees; do not wait for the next payroll cycle. Registration is mandatory from the date of crossing the threshold

highSocial Security Code

Register for ESI within 30 days of reaching 10 employees in a notified area; provide equivalent health insurance for employees above the ₹21,000 wage ceiling

highSocial Security Code

Stress-test all CTC structures against the 50% basic wage rule; restructure any CTC where basic pay is below 50% of total gross compensation

highCode on Wages

Constitute a Grievance Redressal Committee (GRC) when the establishment reaches 20 workers; document the constitution and circulate the GRC charter to all employees

mediumIndustrial Relations Code

Obtain a legal opinion on ESOP taxation and PF interaction before granting options to 10 or more employees; document the company's position for EPFO audit purposes

highSocial Security Code

Register under the Shops and Establishments Act in each state of operation (office premises): this is a Day 1 obligation from the date of opening a place of business

highOSH Code

Document the employment status of co-founders working in the company; ensure founders who are employees have compliant employment agreements and receive statutory benefits

mediumIndustrial Relations Code

Begin provisioning for gratuity liability from Year 4 onward for each employee who joined early; consider a group gratuity insurance policy

mediumSocial Security Code

Review and update all employment agreements for minimum wage compliance, payment cycle compliance, and 50% basic wage rule before the next payroll run

highCode on Wages

Common Pitfalls

Missing EPF and ESI registration thresholds during a growth sprint

Risk

Startups crossing the 20-employee (EPF) and 10-employee (ESI) thresholds during a rapid hiring sprint frequently miss the 30-day registration window. Late registration results in demands for arrears with interest (12% per annum for EPF delays) and penalty under the Social Security Code. In late-stage funding due diligence, unregistered PF/ESI is a standard red-flag finding that delays closings.

Fix

Build headcount threshold alerts into your HRIS or a simple spreadsheet tracker. When the 8th or 18th employee joins, trigger a legal review for ESI and EPF registration respectively. Do not wait for the 10th or 20th employee's first payday.

ESOP plans drafted without considering wage definition interaction

Risk

Many startup ESOP plans are drafted by corporate lawyers without reference to labour law. If the EPFO or a labour court determines that ESOP exercise gains are wages (or that the economic benefit of options suppresses below-market salaries), the company faces retrospective PF demands on the ESOP value. A single senior employee exercising ₹1 crore in options could generate a ₹12,000+ PF demand per month in arrears if the position is accepted.

Fix

Have a labour law practitioner review the ESOP plan alongside the corporate counsel at the time of plan adoption. Ensure employment agreements separately specify that market-rate salary is paid independently of ESOP, reducing the risk that options are characterised as wage substitutes. Monitor EPFO circulars on ESOP treatment.

Treating co-founders as non-employees to avoid labour law

Risk

Some founding teams structure co-founder relationships as "partnerships" or advisory arrangements to avoid employment law obligations. If a co-founder is working full-time in the company under direction and control of a board or co-founder, they may be an employee in law regardless of their shareholder status. A co-founder who departs after three years and claims wrongful termination as an employee can seek all statutory entitlements: notice pay, retrenchment compensation, gratuity, and accrued leave encashment.

Fix

Document co-founder employment arrangements clearly. If co-founders are employees, provide compliant employment agreements. If co-founders are intended to be partners (in a partnership firm) or directors (without service contracts), structure the arrangement specifically for that purpose with appropriate legal advice. Do not allow the arrangement to drift into an undefined middle ground.

Standing order and policy gap when crossing 300 employees

Risk

The IR Code requires certified Standing Orders for establishments with 300 or more workers. Startups that scale through this threshold without updating service conditions often have HR policies that conflict with the Standing Order requirements (disciplinary procedures, suspension, termination), creating a situation where the Standing Order and the employee handbook say different things, which is a fertile source of employment disputes.

Fix

Initiate Standing Order drafting when the company reaches 250 employees. Submit the draft to the Certifying Officer before the 300-employee threshold is crossed. Simultaneously, review and align the employee handbook, offer letter templates, and HR policies with the Standing Order content. This is a 3–4 month process; starting early avoids the threshold being crossed without compliance.

No gratuity provisioning until a resignation triggers a liability

Risk

Gratuity is payable after five continuous years of service. Startups founded in 2020–2021 are now approaching the point where early employees who have stayed through a difficult growth period become eligible. An unprovisioned gratuity liability of ₹20–30 lakhs per long-tenured employee (at realistic senior IC or manager salaries) can create a significant cash-flow challenge, particularly for companies that have not yet achieved profitability.

Fix

Provision gratuity liability on the balance sheet from Year 4 onward for each employee approaching the five-year mark, using an actuarial estimate (or a conservative calculation: 15/26 × monthly wages × years of service). Consider a group gratuity policy with an insurance company, which converts a lumpy liability into a predictable annual premium and is also a tax-deductible expense.

Frequently Asked Questions

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