Stock Option Vesting and Expiration
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If your company provides stock options as a part of your benefits, you should know how they work and how the expiration affects you.
Stock Option Vesting
When you receive stock options, they aren’t yours until you reach the vesting milestones. This is the employer’s incentive to get you to stay for a certain length of time to avoid turnover.
Every company differs, but a common vesting schedule is a 4-year vesting with a 1-year cliff. Overall, this means it takes 4 years for you to be completely vested. If you leave the company before 4 years, you won’t have the right to exercise or (or possibly any) of your options.
What Does Vesting Mean?
Once your stock options are vested, it means you can exercise them. Before you exercise them, they are still worth nothing to you. You have the option to exercise them whenever it feels right now.
Your stock options give you the right to buy stocks at $X no matter the market price. It makes sense to exercise it when you’ll save the most money, aka make the highest profits right away. However, be careful because you’ll likely trigger a tax liability so keep that in mind before you exercise them.
The cliff date, as in our example above of 1-year is the first opportunity you have to exercise your options. If you have a 4-year vesting schedule, you can usually exercise 25% of your stock options on the cliff date.
Vesting after the Cliff Date
After the cliff date, vesting becomes more frequent. For example, if you receive 50,000 stock options when you start your job with a 1-year cliff date and 4-year vesting schedule you’d receive 12,500 shares at the one-year mark and then 1,041 shares monthly after the cliff date.
Stock Option Expiration Date
All stock options have an expiration date or the last date you can exercise them. If you don’t exercise them, they are useless and worth nothing. Stock options are usually good for 10 years or they are immediately useless once you leave the company, if you haven’t exercised them.
Does this mean you must exercise expiring options?
You don’t have to. If you don’t feel the future of the company is secure or you can’t afford to exercise them (buy the stocks), you don’t have to do anything with your stock options – there’s no obligation to use them.
Exercising Options Before You’re Vested
Some companies allow you to exercise options before you’re vested. While this might be an option, you must still meet the vesting requirements to get the full amount of equity in the company that you earned by exercising your options.
Stock options can be a great benefit when you work at a company as long as you know how to use them. Pay attention to your vesting schedule, know when the right time is to exercise your options and always watch your tax liabilities as a result of them.