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Categories : Corporate finance Fundamental analysis Stock market Employee stock ownership.
Stock Options vs. RSU
Hidden categories: Articles with short description Short description matches Wikidata All articles with vague or ambiguous time Vague or ambiguous time from June Namespaces Article Talk. Views Read Edit View history. Help Learn to edit Community portal Recent changes Upload file. Download as PDF Printable version. Exercising stock options does involve some risk, because it requires cash to buy the shares and, in some cases, to pay the tax based on the difference between the value of the stock at the time of exercise often based on a A valuation and the exercise price.
II. Options.
Still, the stock option gives an employee a lot of flexibility to choose whether she wants to reduce her risk. She can either hold on to the stock options, not exercise them and just wait for an exit event to simultaneously exercise and sell her shares, or, she can exercise her stock options at any time before an eventual exit to try to get into a better tax treatment where she might possibly yield higher gains if the company has a successful exit event.
Lisa : The tax consequences vary depending on the type of option that the employee holds and can be pretty complex. On the other hand, if she exercised her stock options before the exit, she may be able to pay lower taxes if all goes as she hopes. If the value of the stock is greater than her exercise price when she exercises, she may owe tax on that gain, depending on the type of option she holds and her own personal tax circumstances.
Non-Qualified Stock Options (NQSO)
If the value of the stock increased over time and she was able to sell at a gain, this all means an overall lower tax obligation for her. By exercising and trying to pay less in taxes and ultimately make more money, the employee is taking on risk though.
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That can be a big pain in the neck at really highly valued companies. At these higher valuations, companies start to think about alternatives like RSUs restricted stock units.
You just have the right to receive the value of a share of stock upon the occurrence of certain events. With restricted stock, you own the stock outright and if you met the statutory holding periods when you sell the stock, you get long-term capital gains treatment on the gain. You only receive stock and start your holding period for long-term capital gains purposes when the RSU vests. Lisa : An RSU is really a promise for an employee to get a share of stock or sometimes, its cash value in the future.
RSUs have been around for a long time in public companies, and in a public company, they typically just have time or service-based vesting.
Stock Options & Restricted Stock
Like I said before, when you get shares of stock from your employer, you owe tax on that. Your taxes will be based on the value when the RSUs vest and are converted into shares that you own. One way private companies have gotten around this problem is to require an exit event for the RSUs to vest. So how do we get around that? There has to be a substantial risk of forfeiture. Also, unlike options, which allow employees to decide when to exercise, RSUs give the employee no choice about when the event will happen that triggers taxes.
Instead, tax me now on the difference between the price I paid and its fair value. X minus X is zero, so fair-market value minus the price I paid is zero. The tax on zero is zero. In order to avoid that, you file your 83 b election at the outset as soon as you get the stock.