How does the stock options for early employees in a startup work?

Stock options aren’t actual shares of stock—they’re the right to buy a set number of company shares at a fixed price, usually called a grant price, strike price, or exercise price. Because your purchase price stays the same, if the value of the stock goes up, you could make money on the difference.

How do options work in a startup?

An option is simply the right for you to buy shares of stock in the company at a predetermined price in the future. Or put another way, options are the way in which you purchase shares of stock in the startup. If your company is able to grow and be successful, then your stock options can become very valuable for you.

Do startups give RSU or options?

A startup, by definition, is a company that’s not publicly traded so they don’t have the ability to offer RSUs the way FAANG companies do. Instead they offer their employees equity.

Should you exercise options before IPO?

Wait until the Initial Public Offering (IPO) to exercise your stock options and pay ~51\% in taxes once you sell your equity… Exercise your stock options before the IPO and only pay ~35\% in taxes. So if you exercise now, you can have that tax savings unlocked by the time you can finally sell your shares after the IPO.

How are startup options taxed?

Typically, your stock vests over time, and stock grants are taxed as they vest. However, in many cases, you’ll have the option to have all your stock taxed immediately by filing a Section 83(b) election with the IRS.

When should you exercise startup options?

Many startups allow their employees to exercise their options before they’ve vested, which is referred to as early exercising. Early exercising is a good idea when you either have high confidence that the company will have a successful exit or the total cost to exercise is affordable.

How do stock options work before IPO?

A common strategy is exercising options six months before the IPO, which starts your stock holding period. Assuming a six-month lockup, any stock you sell thereafter will be taxed as a long-term gain, as you have now held the stock for one year. Regardless, the early exercise of options gives you, well, options.

How do stock option plans work for startups?

Stock Option Plans permit employees to share in the company’s success without requiring a startup business to spend precious cash. In fact, Stock Option Plans can actually contribute capital to a company as employees pay the exercise price for their options.

When should a startup issue restricted stock?

“Startups can issue restricted stock in the early stages when the value of the shares is so low that the employees will not be taxed much,” he explains. “Beyond this point, it makes sense to start issuing stock options. Make sure you get a 409A valuation before issuing your first options.”

What are the benefits of employee stock options?

Stock options can effectively engage employees in the longer term and create a sense of ownership. These plans are very common in startup environments where cash flow may be a challenge and companies look for a compensation strategy that builds a long-term and high level of commitment. Most employee stock option programs are cashless.

How much should you assign stock options to your employees?

Assigning stock options based on percentage is relatively simple. You say “You, employee, own X\% of this company.” So, if we throw some numbers in there, you could give an employee 1\% of your company. If your company exits for $100 million, they would make $1 million.