Stock Options 101
If you work in tech, chances are stock options are part of your compensation package. They can be exciting, sometimes even life changing, but they’re also confusing. Between different types of options, complex tax rules, and questions about timing, it’s easy to feel unsure about what you actually have and how to make the most of it.
In this post, we’ll walk through the basics of stock options, explain the pros and cons, and share what to watch out for so you can approach your decisions with more confidence.
What Are Stock Options?
At a simple level, stock options give you the right (not the obligation) to buy shares of your company at a fixed price, called the “strike” or “exercise” price. If the value of your company’s stock rises above that price, you may have the opportunity to benefit from that growth.
Here are the most common types of stock-based compensation you might see:
Incentive Stock Options (ISOs): Reserved for employees. They can qualify for favorable tax treatment but come with strict rules.
Non-Qualified Stock Options (NSOs or NQSOs): More flexible, often used broadly, though usually less favorable tax-wise.
Key terms you should understand:
Vesting Schedule: The timeline for when your options become available to you. Employees typically need to work for a period of time, such as a year, before stock options begin to “vest” (i.e., become theirs).
Exercise: When you buy your shares at the strike price.
Expiration Date: The final deadline to exercise your options before they disappear.
Why Stock Options Matter and Where They Get Complicated
For many tech employees, stock options aren’t just an extra perk. They can make up a meaningful part of your overall compensation. But like most things in finance, the details matter.
Pros:
Stock options give you a chance to share in ownership and long-term value beyond salary and bonuses.
They have the potential to provide you with significant financial upside if the company performs well.
They tie your rewards to the company’s performance, motivating you to help it succeed.
Cons:
Value is never guaranteed; options may expire worthless if the stock doesn’t grow.
Exercising can lead to complex tax issues, sometimes including Alternative Minimum Tax (AMT).
Shares in private companies are often illiquid, which means you may not be able to sell shares until an IPO or acquisition.
Common Pitfalls Tech Employees Should Avoid
You’re not alone if stock options feel overwhelming. Many people run into challenges because of the details. A few common pitfalls include:
Exercising without a tax plan: A surprise tax bill can eat into what you thought was a gain. If the company is private, you may not be able to sell shares to cover the tax liability that exercising has generated.
Forgetting the clock: If you leave your job, you may have only 90 days to exercise vested options.
Putting too much in one basket: Relying heavily on your company’s stock can expose you to unnecessary risk.
Bringing It All Together
Your stock options can be an incredible opportunity, but it’s important to understand how they work and where they fit into your broader financial plan. The key is balancing potential upside with the risks and making sure you have a strategy in place.
At DiversiFi, we help tech employees like you make sense of stock options, taxes, and timing so you can feel confident in your next move. If you’re ready to take the guesswork out of your equity, let's talk.
DISCLOSURES
DiversiFi Capital LLC is a registered investment adviser located in CA and may only transact business or render personalized investment advice in those states and international jurisdictions where we are registered, notice filed, or where we qualify for an exemption or exclusion from registration requirements. Any communications with prospective clients residing in jurisdictions where DiversiFi Capital LLC is not registered or licensed shall be limited so as not to trigger registration or licensing requirements.
Past performance is not indicative of future returns, and investing always carries inherent risks, including the potential loss of principal capital. Any investment strategies are specific to individual clients and may not be representative of the experiences of all clients.
The Information presented in our blog posts is intended for educational purposes only. It is not intended to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Unless otherwise stated, the investments discussed in our blog posts are not guaranteed.
The content in our blog posts is designed to provide information and insights but should not be used as the sole basis for making financial decisions. The content provided in our blog post(s) is provided “as is,” and/or “as available.” Diversifi Capital LLC will to the best of its abilities maintain the content to be up to date. However, Diversifi Capital LLC does not represent or warrant that our content or our services found within are accurate, complete, reliable, current, or error-free.
We strongly encourage readers to conduct their own research, seek advice from qualified financial professionals, and consider their unique financial circumstances before making any investment or financial decisions. Your individual situation may vary, and it's essential to make informed choices that align with your specific goals and needs.