Unfortunately, you will not receive all of your options right when you join a company; rather, the options vest gradually, over a period of time known as the vesting period. A four-year vesting period means that it will take four years before you have the right to exercise all 20, options. This is where that one-year cliff comes in: This means that you will need to stay with the company for at least one year to receive any of your options.

Once your options vest, you have the ability to exercise them. This means you can actually buy shares of company stock.

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Until you exercise, your options do not have any real value. The price that you will pay for those options is set in the contract that you signed when you started. You may hear people refer to this price as the grant price, strike price or exercise price. No matter how well or poorly the company does, this price will not change.

You can also hold it and hope that the stock price will go up more. Note that you will also have to pay any commissions, fees and taxes that come with exercising and selling your options. There are also some ways to exercise without having to put up the cash to buy all of your options.

Get the Most Out of Employee Stock Options

For example, you can make an exercise-and-sell transaction. To do this, you will purchase your options and immediately sell them. Rather than having to use your own money to exercise, the brokerage handling the sale will effectively front you the money, using the money made from the sale in order to cover what it costs you to buy the shares. Another way to exercise is through the exercise-and-sell-to-cover transaction. With this strategy, you sell just enough shares to cover your purchase of the shares, and hold the rest. You can find this in your contract. When and how you should exercise your stock options will depend on a number of factors.

You would be better off buying on the market. But if the price is on the rise, you may want to wait on exercising your options. Once you exercise them, your money is sunk in those shares. So why not wait until the market price is where you would sell? That said, if all indicators point to a climbing stock price and you can afford to hold your shares for at least a year, you may want to exercise your options now.

Also, if your time period to exercise is about to expire, you may want to exercise your options to lock in your discounted price. You will usually need to pay taxes when you exercise or sell stock options. What you pay will depend on what kind of options you have and how long you wait between exercising and selling. With NQSOs, the federal government taxes them as regular income.

The company granting you the stock will report your income on your W The amount of income reported will depend on the bargain element also called the compensation element.

When you decide to sell your shares, you will have to pay taxes based on how long you held them. If you exercise options and then sell the shares within one year of the exercise date, you will report the transaction as a short-term capital gain. If an employee held all of their options over the last 2 years, that part of their net worth took a large hit. With proper planning this could have been avoided.

Most people are familiar with the concept of dollar cost averaging DCA. A lot of people do this monthly with their Ks and IRAs. Each month a certain dollar amount is put into their accounts and invested in securities averaging the purchasing price. The opposite can be done as well, reverse DCAing. Instead of purchasing shares systematically, shares can be sold systematically. Typically, the vesting is somewhere between one and four years and the employee has 10 years to exercise the options before they expire. Having a plan for each grant, and working with a financial advisor and CPA on liquidation plans for both maximizing returns and taxes is advantageous.

Max out K — Use the stock options to max out your company K. If you are a higher income earner that does not have the ability to contribute to a Roth IRA, but your company offers a Roth K, this may be a smart planning technique. If these concepts are foreign to you, or you have questions on how this works, consulting with a financial advisor and CPA is recommended.

Paying off debt — This could be credit cards, cars, mortgages, student loans, etc. Plan for this in advance. Again, having a rules-based approach to your stock options will make strategies like this a prudent part of your overall financial plan. Down payment — If you are saving for a new home or looking to purchase a new home, establishing a plan of when and how to execute your options tax efficiently can be valuable for adding real-estate to your net worth. Education — Whether you are continuing your own education or looking to help a loved one advance theirs, creating a financial plan where you can systematically execute options to pay for education will lower the amount of debt needed to fund education and potentially eliminate the need for financing all together.

Tax planning — Depending on the type and quantity of options you have; you should be thinking about the tax ramifications of owning them. It may make sense to execute sooner rather than later.

On the flip side, it may make sense to delay. Having a conversation with both a financial advisor and tax professional will at a minimum give you the confidence to make the right decision based on your own specific circumstances. Be proactive in speaking with a financial advisor and tax professional to ensure you understand what you own, how they work, the tax ramifications for owning them, and how you will use this form of compensation to meet the goals specific to you and your family.

This information has been obtained from sources deemed to be reliable but its accuracy and completeness cannot be guaranteed. Any opinions are those of the author and are not necessarily those of Raymond James. Neither Raymond James Financial Services nor any Raymond James Financial Advisor renders advice on tax, legal or mortgage issues, these matters should be discussed with the appropriate professional.

Investing involves risk, investors may incur a profit or loss regardless of the strategy or strategies employed.

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6 Strategies to Consider to Exercise Your Employee Stock Options

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