always, always remember that getting stock options is not the same
thing as getting shares of stock. The option is the right, but not
the obligation, to purchase a share at a specific price, at a specific
time. Before you can purchase the shares - or exercise your options
- you need that option to purchase. You must earn the right to purchase
those shares; you need to become vested in those shares.
your options will make you a shareholder and provide you with an
investment vehicle with growth potential. While you're not obligated
to exercise an option, if you choose to acquire the stock, here
are a few guidelines to follow.
Vesting is the period over which an employee has the ability to
realize rights. A stock is considered vested when the employee may
leave the job, yet maintain ownership of the stock with no consequences.
schedules vary from company to company. For example, employees of
one company might be vested in 33 percent of their options after
each year with the firm, while employees of another company might
be vested in 20 percent of their options after each of five years.
In high-tech companies, the typical vesting schedule is a little
more complicated. For example, an employee might be 25 percent vested
after the first six months of employment, and then an additional
2 percent every month thereafter until all options are vested.
vesting schedules, non-high-tech firms
Vesting, company A
Vesting, company B
vesting schedule, high-tech firms
Tenure with the firm
Vesting, high-tech company C
less than six months
each month thereafter
end of year 1
end of year 2
end of year 3
eighth month of year 4
assume three hypothetical employees began work on January 1, 2001.
One works at company A, one works at company B, and one works at
high-tech company C. Now let's assume that all three employees leave
their jobs on October 1, 2003, after two years and nine months of
employment (or 33 months). The employee at company A will be 67
percent vested (two full years times 33 percent), and the employee
at company B will be 40 percent vested (two full years times 20
percent). The employee at company C will be 79 percent vested (25
percent plus (27 times 2 percent)).
Exercising is when you actually purchase the stock.
plans are designed to encourage employee ownership, on the theory
that when employees have a stake in the company, they are more likely
to make decisions in the company's best interest and to perform
at a level that helps the company achieve its goals and objectives.
Shareholders have the greatest stake in the company. After all,
they are the owners. Ownership carries with it certain responsibilities,
such as voting, along with both upside and downside potential.
have the greatest responsibility, and stand to gain (or lose) the
Holder of unvested options
Holder of vested options (not exercised)
Shareholder (exercised options)
Former shareholder (sold shares)
Gain if stock price increases
Lose if stock price decreases
among rank-and-file employees, options are treated more like self-directed
bonus plans, where the bonus is tied to the value of the company.
Most employees who are not executives exercise their options, then
sell their shares in the same transaction. This is known as flipping
after an IPO, there is a period of time, known as the lockup
period, during which employees are restricted from exercising
their stock options. The rules of the lockup period can differ by
company and by employee within the company. Usually, the lockup
period is 180 days (six months), after which there may be additional
restrictions on the exercise of the options. Your HR department
should let you know how the rules apply to you.
There are many ways a company can offer stock options to employees,
as well as different types of stock options. Each plan has different
tax implications and rules associated with it.
of some companies may need to meet certain requirements after exercising
options, such as remaining with the employer for a predefined period,
in order to keep the stock. It's also possible that the employees
will only be able to retain their stock for as long as they're working
for the employer. This is to ensure employee loyalty and retention,
at least for a time. If your company is still growing fast, you
may not want to sell your stock, and you may stay with the company
longer to realize more gains.
stock option programs have fewer strings attached. The tax implications
vary based on a variety of criteria, such as whether you own the
stock or are merely vested in the options, or whether you're actually
able to sell the stock you own. Becoming vested in a stock option
and exercising that option are different things, with different
sure to read carefully the option agreement provided by your employer,
which contains information about the stock option plan. You may
want to contact an accountant or personal financial planner to help
you understand your investment opportunities better and maximize
your growth potential, while minimizing the tax liability.
your stock options
You can only exercise stock options that are vested. So at any given
time, you may be able to exercise only some of your stock; or you
may have multiple options with different rules and regulations applying
to each. This means you'll need to select the best opportunities
that will help you meet your personal investment and financial goals.
example, you may be given an opportunity to purchase a predetermined
number of shares at one price, and if you meet specific employment
criteria (such as staying with the company for a certain time),
you may be given an additional option for a different number of
shares, offered at a different price. You can then choose which
option to exercise, or exercise all of your options at once. You
may exercise your options in any order. There are no longer laws
stating that you must exercise options in the order in which they're
given to you.
a method of payment
Originally, employees needed to pay cash to exercise their stock
options. While this is still the most common payment method, some
employers have begun developing special arrangements with stock
brokers and/or financial institutions to give employees payment
alternatives that don't require them to come up with a lump sum
of cash in order to participate in a stock option program. In some
instances, a totally cashless exercise can be executed. Your plan's
description or your HR department can explain the alternatives.
addition to coming up with the cash necessary to pay to exercise
an option, be prepared to pay additional funds to cover the withholding
requirements (for nonqualified options). The exact amount of withholding
will be based on the actual price at which you purchase the stock.
Once you have investigated the rules associated with the stock option
plan, and you've determined exactly how and when you want to exercise
your options, you'll probably have to complete some paperwork and
submit it to your employer to purchase the stock.
wait until the last minute, when your options are about to expire,
before acting on the opportunity. Ideally, you'll want ample time
to understand what you're purchasing and determine the best opportunities
so you'll benefit the most financially. The decisions you make will
determine how much tax liability you'll have in the future.