What are Employee Stock Options?

As a benefit, employers often offer stock options. Not only does this benefit you, but companies also feel that when you own a piece of the company, it motivates you. This has been proven true, but often in the long run your stock options can end up being worth more than your salary.

Stock options aren’t actually shares, but they are an agreement to purchase a certain amount of shares at a specific price. There are a few terms involved in this such as grant, strike, or exercise prices, but the whole concept of Denver Incentive Employee Stock Options is not complicated.

The bottom line of employee stock options is that you should attempt to eventually sell your shares for more than you originally paid for them. You are never actually required to sell them, which is why they are called employee stock options rather than employee stock commitments.

Granting and Vesting

These two components are essentially how your employee stock options work. 

Grants

These are how your company awards stock options. Your grant will be exactly what is included in your equity plan. This includes:

  • Type of stock options available
  • How many shares are available to you
  • Your cost to purchase the shares (known as the strike price)
  • Your vesting schedule which is when you are allowed to use your shares

Your stock price is generally based on the fair market value of the stock at the time of your grant.

Vesting

The process of actually having the right to exercise your options is vesting. There is typically a specific amount of time that a company will give you to entice you to stay at your job before vesting.

Sometimes, you will be given a year to be able to exercise some of your options, but after five years you can exercise all of them. If you leave the company, your unvested options are usually taken from you and given back to the company.

Different Types of Stock Options

There are two main types of stock options, ISOs and NSOs. The difference between the two of these is only regarding how or when they are taxed.

Incentive Stock Options (ISOs)

ISOs usually result in fewer taxes for you, because there are fewer taxes owed at the time of exercising them. The downside is that this stock is subject to long term capital gain tax whenever you sell it.

  • Leads to a less tax liability
  • Taxes are due later
  • No tax deduction for the company
  • No tax is due until the stock option is sold

Non-Qualified Stock Options (NSOs)

The stock from an NSO is taxed twice. The first time is when you exercise the option, and the second is when it is sold. Specifically, the difference between the exercise price and the fair market value of the stock is considered your income.

  • Usually you have to pay taxes both when you exercise and sell.
  • Better for the company
  • Leads to taxation on the stock even though you can’t yet sell it
  • Company can take tax deductions when you exercise your stock options
  • Considered ordinary income
  • Taxes are owed earlier

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