Frequently Asked Questions about Employee Stock Options
What is an employee stock option?
An employee stock option is a stock option given by the employer, which is usually the corporation, to the employee wherein the employee can buy specific shares of the company’s stocks at a specific price before the expiration of the stock option. The specific price in which the stocks can be bought is called the strike price or option price or exercise price and this can either be higher or lower than the existing fair market valuation of the stocks.
Who are given employee stock options?
As the name may suggest, employee stock options are given to the corporation’s employees. But the term employee does not only mean the ‘executive’ employees or the ones that already have high paying salaries. Employee stock options can be given to the rank and file employees. Sometimes, at the discretion of the company, employee stock options can be given to non-employees such as those that work for the company as consultants or on a project basis.
Why do employers give employee stock options to their employees?
The employers give employee stock options to their employees because it is a good way to give added benefits to the employees without giving out cash. It is a way keep the employees loyal and happy and at the same time act as an attraction to other talented and skilled employees to join the corporation’s ranks.
What are the kinds of employee stock options?
There are two general kinds of employee stock options. The qualified stock option and the non-qualified stock option. The qualified stock option allows the employee to have tax benefits once he chooses to exercise the tax options whereas a non-qualified stock option offers no benefits of tax deductions or exemptions for the employees.
What are the tax consequences of accepting and exercising an employee stock option?
Oftentimes, merely accepting an employee stock option has no tax consequences but there are exceptions. Some non-qualified stock options are immediately taxed once they are accepted by the employee. It is usually during exercise of the employee stock option and the subsequent sale of the underlying stock that has tax consequences in both the two kind of stock options.
When should an employee exercise his employee stock option?
There are actually two schools of thought that tackle when to exercise employee stock options. The first school of thought is to exercise the employee stock option at the latest time possible. This is because an employee should want to hold on to the employee stock option until the stock price appreciates and appreciates so that by the time employee exercises the employee stock option he would have realized the highest possible profit that he can.
The other school of thought is to exercise the employee stock option as the soonest possible time that an employee can do so. The three main reasons for this school of thought are: one, the employee has lost confidence in the ability of his employer and the ability of the corporation to grow more and he thinks this is the best the corporation will ever get; second, the employee already owns too much of the corporation’s stocks and he thinks it is not a good idea to bet his money in just one or few kinds of stock. Lastly, the employee wants to avoid paying too much taxes and being placed in a higher level tax bracket. Buying and selling a large volume of stocks at the same time can cause an employee’s tax obligations to rise.