What happens to unsquared options at expiry
When an option is left open at expiry, unsquared options are resolved automatically by the exchange according to their moneyness and their underlying. An out-of-the-money option lapses worthless; an in-the-money index option is auto-exercised and cash-settled against the index close; an in-the-money single-stock option is auto-exercised into compulsory physical delivery of the underlying shares at the strike. The framework is set by the Securities and Exchange Board of India and the clearing corporations, and on Zerodha it plays out through Kite and the back-office settlement process.
The difference between cash and physical settlement is where the cost and risk concentrate. A forgotten in-the-money index option costs a cash settlement and its charges; a forgotten in-the-money stock option can trigger a delivery worth many times the option premium, with margin and auction consequences if you cannot fund or deliver it. This article covers each outcome, the auto-exercise mechanism, the securities transaction tax charged on exercise, the withdrawal of the Do Not Exercise facility, and the delivery and margin consequences that make squaring off before expiry the default safe choice.
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Three outcomes by moneyness and underlying
At the expiry-day close, every open option resolves into one of three outcomes. The driver is whether the option is in-the-money or out-of-the-money, and whether the underlying is an index or a single stock.
An out-of-the-money option lapses. A call is out-of-the-money when the settlement price is below the strike, a put when it is above; in either case the option has no intrinsic value. It simply expires. The buyer has already paid and lost the premium, the writer has collected and kept it, and no settlement, exercise or delivery follows. This is the cleanest outcome and the one a theta-decay seller relies on.
An in-the-money index option is auto-exercised and cash-settled. The exchange exercises every in-the-money Nifty 50 or Sensex option held to expiry against the index closing value; the holder receives the intrinsic value in cash, the writer pays it, and no shares move because an index is not deliverable.
An in-the-money stock option is auto-exercised into physical settlement . Every single-stock F&O contract on Indian exchanges is compulsorily physically settled, so an in-the-money stock option held to expiry obliges the holder to take or give delivery of the underlying shares at the strike, not a cash difference. This is the outcome that turns a small premium into a large obligation.
| Option at expiry | Index underlying | Stock underlying |
|---|---|---|
| Out-of-the-money | Lapses worthless | Lapses worthless |
| In-the-money | Auto-exercised, cash-settled | Auto-exercised, physical delivery |
| STT on exercise | On intrinsic value | On settlement value, plus delivery STT |
Sources: SEBI and NSE Clearing physical-settlement framework, October 2019 onward; NSE and BSE contract specifications, accessed June 2026.
Auto-exercise and the loss of choice
The holder of an in-the-money option does not choose whether to exercise. The exchange exercises all in-the-money options automatically at expiry. For an index option this is harmless: the cash settlement credits the intrinsic value either way. For a stock option it removes the escape hatch that once existed.
Physical settlement of stock F&O began in a phased rollout from October 2019, replacing the earlier cash settlement of stock options. In the original design the exchanges offered a Do Not Exercise (DNE) facility for close-to-money (CTM) strikes, the in-the-money strikes closest to the settlement price, so a holder could decline exercise on a marginally in-the-money option and have it cash-settled instead. The exchanges defined CTM precisely: for calls, the three in-the-money strikes immediately below the settlement price; for puts, the three immediately above. The DNE facility had been introduced in August 2017 to address the STT problem on exercised options.
From October 2021 the exchanges discontinued the DNE facility for CTM strikes. The reason was that the STT problem it was created to solve had itself been fixed, so the facility was seen as no longer necessary. The consequence, set out under do not exercise option , is that an in-the-money stock option held to expiry now goes to physical settlement with no opt-out. The risk shifted from an STT problem to a delivery problem: a holder can now end up obliged to take or give delivery without sufficient funds or shares.
STT on exercise
The securities transaction tax on an exercised option is the reason squaring off usually beats holding to expiry. STT on an exercised in-the-money option is charged on the intrinsic or settlement value, not on the premium.
The historical “STT trap” was severe: before the fix, STT on an exercised option was levied at 0.125 per cent on the full contract value rather than the intrinsic value, so a deep in-the-money option that you let expire could attract an STT charge larger than the entire profit on the trade. SEBI and the exchanges corrected this so that STT on exercised options is computed on the intrinsic value, the difference between strike and settlement, which removed the worst of the trap. The mechanics and the current rate are set out in STT on options exercise and the related options exercise charges on Zerodha .
Even with the fix, exercise-day STT and the physical-settlement charges on a stock option, including the higher delivery brokerage and the delivery-style STT on both legs of the settled trade, make holding an in-the-money option to expiry more expensive than closing it. For an index option the gap is smaller but still real; for a stock option it is large. The general principle: an in-the-money option that you intend to realise should normally be squared off before the close, not left to exercise.
Delivery and margin consequences
The physical-settlement obligation on a stock option is where the real money risk sits. A long in-the-money call is exercised into taking delivery: the holder must pay the full strike value of the shares and receive them into the demat account. A long in-the-money put is exercised into giving delivery: the holder must deliver the shares, which means holding them or buying them to deliver. A short in-the-money option faces the mirror obligation, giving delivery against a short call or taking delivery against a short put.
The clearing corporation ramps up delivery margins through expiry week to cover this. From the start of expiry week, positions that are likely to go to physical settlement attract an escalating delivery margin, so a stock option that drifts in-the-money near expiry can pull a large margin requirement into the account days before the actual settlement, covered under higher margin near expiry . If a holder cannot fund the delivery or deliver the shares, the obligation goes to the exchange auction with short-delivery penalties, which can substantially exceed the option premium.
Zerodha and other brokers manage this risk operationally. Brokers may square off in-the-money stock-option positions on the client’s behalf near the expiry-day close if the account cannot support the delivery, and they flag positions heading to physical settlement during expiry week. A trader should not rely on the broker’s safety square-off; the disclosed policy is the trader’s responsibility to close the position. The detail sits in physical delivery timing on Zerodha and physical delivery risks in F&O .
The default safe action
The simplest rule covers almost every case: square off any open stock option before the expiry-day close. You have until 3:30 pm on the expiry day to exit, so the decision is entirely within the trader’s control. Exiting before the close avoids auto-exercise, avoids the exercise-day STT computation, and avoids the physical-delivery obligation altogether, leaving only the normal trade charges.
For index options the urgency is lower because the worst outcome is a cash settlement rather than a delivery, but squaring off an in-the-money index option before the close still usually costs less than the exercise-day STT on the intrinsic value. For out-of-the-money options of either kind, no action is needed; they lapse on their own. The position that demands attention is an open stock option that is in-the-money or drifting toward the money as expiry approaches, because that is the one the auto-exercise turns into a delivery obligation. The full procedural guidance is in how to avoid physical settlement of options and how to physically settle an ITM option for the cases where delivery is intended.
See also
- Physical settlement of stock F&O
- STT on options exercise
- Options exercise charges on Zerodha
- Do not exercise option
- How to avoid physical settlement of options
- How to physically settle an ITM option
- Physical delivery timing on Zerodha
- Physical delivery risks in F&O
- Higher margin near expiry
- Short delivery and auction on Zerodha
- How the F&O expiry calendar works
- Weekly versus monthly expiry
- Nifty weekly expiry on Zerodha
- Sensex weekly expiry on Zerodha
- Expiry day options trading
- In-the-money, at-the-money, out-of-the-money
- Theta decay
- Option premium
- SPAN margin on Zerodha
- Securities and Exchange Board of India
- National Stock Exchange
- NSE Clearing
- Zerodha
- Kite by Zerodha
- Zerodha F&O charges
- How to use the options chain on Kite
External references
- Zerodha support: What happens if an option contract is not squared off on expiry?
- Zerodha: Physical delivery of stock F&O and their risks
- NSE: Equity derivatives contract specifications
- SEBI: Securities transaction tax and derivatives settlement framework
- Zerodha Varsity: Physical settlement of futures and options
References
- Zerodha support, “What happens if an option contract is not squared off on the expiry date?” support.zerodha.com, accessed June 2026.
- National Stock Exchange of India and NSE Clearing Limited, physical-settlement framework for stock derivatives, October 2019 onward, nseindia.com, accessed June 2026.
- National Stock Exchange of India, circular discontinuing the Do Not Exercise facility for CTM strikes, October 2021, nseindia.com.
- Securities and Exchange Board of India, securities transaction tax provisions on exercised options, sebi.gov.in, accessed June 2026.
- Zerodha, “Physical delivery of stock F&O and their risks,” zerodha.com, accessed June 2026.