Best way to exercise employee stock options
However, employee stock options are more complicated than traditional financial instruments such as stocks, bonds, or k accounts. Their actual value can be volatile, and the impact on your portfolio wealth uncertain if you do not plan for it. Five key steps to watch are:.
Know what you have. Consider what kind of instrument you have.
Business Basics - Stock Options (Incentive)
The major difference is how and when they are taxed. It is important to know what you have so you can plan accordingly. Plan for taxes. The good news is that employee stock options receive tax benefits under current Federal law. The down side is that you will eventually owe taxes.
NQSO are taxed as ordinary income when they vest. They also incur payroll taxes. ISO are taxed when the underlying stock is sold, i. If you sell the stock more than one year after you exercise it, it will usually be taxed at capital gains rate.
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With planning you can make sure that you are ready for the impact. Beware of the risks of ownership. Owning Employee Stock Options may carry additional risks, especially as you get more of them. As Wealth Strategists we recommend that you should not concentrate too much of your wealth in a single stock. As an employee you are already exposed to the risk of your employer: you work there and you depend on your employer for your income. You need to evaluate how much more of that risk you can afford. If in addition to having employee options you also own stock in your employer either directly or in the company k, we need to talk!
Of course employee stock options need to vest before you can do anything about them. However, when they vest you can mitigate the concentration risk by diversifying or selling a portion in the most tax efficient manner, then reallocating the proceeds to other investments.
Harvest your gains. Other investors might tell you not to exercise them until they're near their expiration dates. But which is the right choice? It would be best to consider your circumstances, comfort level with risk, tax situation and a few other factors.
Exercise Stock Options: Everything You Need to Know
Learn five that can affect whether you exercise your options or let them be. If you're holding your employee stock options in the hopes that the stock price will climb higher, consider your current cash needs compared to the potential for future gains. If you need cash now and your options have value, exercising is an excellent choice. You may not see higher stock prices in the future, and you could put the cash you can get from exercising your options to good use.
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You might want to exercise if:. To turn your stock options into cash you can access, you can exercise the option and purchase the stocks. Selling the stocks and pocketing the money after taxes is one of the quickest options. You can then use the profits to reinvest in a more diverse portfolio, make the payment on your house or cover any other significant expenses. There's a component to your employee stock options called time value. When there are many years left until the expiration date, the time value is the potential for additional future gains or losses.
Time value could be linked to lost opportunity cost. If you exercised the option, what opportunities would you lose? You might reinvest the money, but would the company stock have better returns in the future? Opportunity cost is the loss of potential gains from one course of action when another is decided upon.
The down payment on the house might help you save money on mortgage interest, but if you purchase and hold the stocks, you might generate enough returns to finance your retirement fully. Tax planning involves projecting your expected income and deductions over the upcoming years. Exercising all your options in one year might bump you into a higher tax bracket. There may be benefits for exercising some options now and waiting to exercise others. It might make good tax sense to exercise a portion of your options annually rather than wait until the expiration date to exercise them all.
Consider the volatility of your company's stock and the volatility of market conditions as a whole. Recessions can be ruthless on a company's operations and stock prices. Speculative market bubbles are increasing in frequency.
Over the last 30 years, there have been two that have caused recessions. In the 90 years between and , there was only one that caused a recession—the crash of that led to the Great Depression. If your company is experiencing significant, rapid growth in an industry, you may want to consider exercising and reinvesting in less risky investments—especially if you begin wondering if a bubble is about to burst.
On the other hand, if the company has weathered recessions before, you might consider waiting.
Employee stock option
If yours is a financially sophisticated, high-net-worth household, you might pursue more advanced strategies than a family with less financial acumen. A good rule to follow is that if you don't understand it, don't do it. John Olagues, the author of Getting Started In Employee Stock Options , talks about advanced employee stock option exercise strategies. He says that you can reduce risk and increase potential returns by using advanced strategies that involve selling calls and buying puts on the company stock.
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John is adamant that advanced option strategies are a more efficient way to reduce risk and capture the time value remaining in your options when compared to an exercise-and-sell strategy.