How to Maximize Your Stock Options

The Key Considerations You’ll Need to Best Leverage this Employee Benefit

Stock options have become a popular way for employers to compensate employees and incentivize high-quality work. Not only are they convenient and cost-effective for the employer, but they provide employees with added value for a job well done. When employees feel valued and do good work, the company’s stock value rises, and everyone wins.

Since stock options aren’t as cut and dry as a normal paycheck, though, many employees don’t fully understand how to make the most of them. Below we’ll discuss how stock options work, when to exercise them, and how to maximize this type of compensation.

The Basics of Employee Stock Options

When an employer offers stock options as part of your benefits package, it means you’ll have the opportunity to purchase a certain amount of company stock for a set price called the “grant price”, and typically within a set time frame. Most often, employers want to incentivize you to stay with the company long-term, so you may have to wait until your stock options vest – that is, until they reach the point in time when they become available to you to exercise. This means new employees usually can’t take advantage of them right away. Once they vest, you’ll have a specific time period in which to use your stock options before they expire.

Four Things to Consider Before Exercising Your Stock Options

Many employees want to exercise their stock options as soon as they are able. After all, it’s like creating a windfall for yourself similar to a cash bonus. However, that isn’t always the best option. These considerations will help you pick the proper timing:

1.     Understand What Type of Options You Have

Most likely, your stock options are either Incentive Stock Options or Non-Qualified Stock Options. Knowing which you have is important because they are taxed differently. Of course, this means taking a different approach with each type.

2.     Learn What Your Options Mean for Your Taxes

The biggest difference between Incentive Stock Options and Non-Qualified Stock Options are that Incentive Stock Options, called ISOs for short, often do not create a taxable event when you exercise them. This means you could hold onto those exercised options for a while and pay long-term capital gains taxes after a year or more. It should be noted, however, that the bargain element of an ISO exercise can cause alternative minimum tax to be paid. Non-Qualified Stock Options do create a taxable event when you exercise them, and they are counted as taxable income at your normal income tax rate. Down the road when you sell them, you’ll still owe capital gains tax, too.

3.     Consider Whether You Can Gain More Value if You Delay Exercising Your Options

The market is unpredictable, of course, and there are no guarantees when it comes to the performance of your employer either. Maybe you have reason to believe that the value of your stock options will continue to grow while your grant price stays the same. Regardless, you should discuss this decision to delay exercising your options until the expiration date with your financial advisor.