How does an IPO work, from an employee's perspective?
October 7, 2007 12:22 PM Subscribe
How does an IPO work from an employee's perspective?
Say you work for a company that will be going public. You are fully vested in 50% of your options.
When the company goes public, is there a waiting period before options can be exercised?
What kind of tax implications can you expect?
For example, say I have 3000 options with a $2 strike price. Company goes public, and 2 months later the stock is trading at $20. If I exercise the options, I net $54,000. How much of that will be taxed?
Is the tax based on current income level? Or is this some kind of capital gains scenario?
Say you work for a company that will be going public. You are fully vested in 50% of your options.
When the company goes public, is there a waiting period before options can be exercised?
What kind of tax implications can you expect?
For example, say I have 3000 options with a $2 strike price. Company goes public, and 2 months later the stock is trading at $20. If I exercise the options, I net $54,000. How much of that will be taxed?
Is the tax based on current income level? Or is this some kind of capital gains scenario?
You are taxed on the full gain as short term capital gains. Which I'm pretty sure will just count as ordinary income for tax purposes. Which means you'll either have to come up with cash for the taxes or sell some stock to pay for the taxes. The company handling your options probably has an option for a "cashless exercise" where all the stock is sold immediately after exercise, the taxes paid and you get the rest minus any fees they charge.
posted by jefftang at 12:50 PM on October 7, 2007
posted by jefftang at 12:50 PM on October 7, 2007
Best answer: IANAFA - but I just went through this, basically.
Every option agreement I've ever seen allows you to exercise at anytime even before it's public - and get this - even before it's vested. Your company's stock always has an official value (409A stuff). So say you have 3000 at $2, and the company is officially worth $10 per share now (before going public). If you exercised right now you would take a $8 per share gain as just straight income (even if the stock after going public fell down to $4 next year). If in 2 months the company went public and you sold them at $20. You would take another $10 per share straight income gain. Now, if you were to hold the exercised shares before selling for at least 12 months, and then sold at $20 that remaining $10 would be taxed at the long term capital gain rate (15%, I think). Also, AMT can figure into the picture in the above scenario, and you would need someone to look at your specific situation to figure that all out.
posted by ill3 at 1:14 PM on October 7, 2007
Every option agreement I've ever seen allows you to exercise at anytime even before it's public - and get this - even before it's vested. Your company's stock always has an official value (409A stuff). So say you have 3000 at $2, and the company is officially worth $10 per share now (before going public). If you exercised right now you would take a $8 per share gain as just straight income (even if the stock after going public fell down to $4 next year). If in 2 months the company went public and you sold them at $20. You would take another $10 per share straight income gain. Now, if you were to hold the exercised shares before selling for at least 12 months, and then sold at $20 that remaining $10 would be taxed at the long term capital gain rate (15%, I think). Also, AMT can figure into the picture in the above scenario, and you would need someone to look at your specific situation to figure that all out.
posted by ill3 at 1:14 PM on October 7, 2007
Exercise your options as soon as you can, BEFORE it goes public. You have to pay a gain on the difference between what you paid and what the stock is worth AT EXERCISE, so presumably, the stock will be worth less and you will pay less if you do it now.
However, if you don't have the money to exercise, or if you can't afford to pay the tax at exercise, then you may have to wait until IPO and do the cashless thing jefftang mentions.
If you can exercise while the stock has a low value and you can afford to just pay the tax, all subsequent gains are long-term, which is taxed MUCH lower than short-term -- 18%, as opposed to your normal income tax rate.
posted by Malor at 1:15 PM on October 7, 2007
However, if you don't have the money to exercise, or if you can't afford to pay the tax at exercise, then you may have to wait until IPO and do the cashless thing jefftang mentions.
If you can exercise while the stock has a low value and you can afford to just pay the tax, all subsequent gains are long-term, which is taxed MUCH lower than short-term -- 18%, as opposed to your normal income tax rate.
posted by Malor at 1:15 PM on October 7, 2007
While some of the folks above have good advice, please talk to your stockbroker and/or accountant before doing anything. Have whatever papers your company has given you about the IPO in front of you so you can answer questions they will ask.
And remember, not all IPOs are money-printing machines. For every Google there are several companies whose shares go nowhere.
posted by ilsa at 1:58 PM on October 7, 2007
And remember, not all IPOs are money-printing machines. For every Google there are several companies whose shares go nowhere.
posted by ilsa at 1:58 PM on October 7, 2007
Response by poster: I'm not sure what kind of options they are... From reading the description of ISO on Wikipedia, it sounds right but I could easily be wrong.
So I understand right - is exercising is the act of buying and immediately selling the stock? Or just the buying part?
Then when it's sold, if my current tax bracket is 25% and I make $54,000 in short term gains, I owe $13,500 on the spot? Or does it go into my W-2 and I don't owe the money until April 15th?
If my company offers a cashless exercise, they will factor in the tax in my gains and would I'd end up with $40,500?
posted by jbiz at 2:08 PM on October 7, 2007
So I understand right - is exercising is the act of buying and immediately selling the stock? Or just the buying part?
Then when it's sold, if my current tax bracket is 25% and I make $54,000 in short term gains, I owe $13,500 on the spot? Or does it go into my W-2 and I don't owe the money until April 15th?
If my company offers a cashless exercise, they will factor in the tax in my gains and would I'd end up with $40,500?
posted by jbiz at 2:08 PM on October 7, 2007
Every option agreement I've ever seen allows you to exercise at anytime even before it's public - and get this - even before it's vested.
is there any way anyone could explain this further? what's the point of vesting dates if you can ignore them and exercise whenever you want?
posted by drjimmy11 at 2:40 PM on October 7, 2007
Best answer: Congratulations, you have options you think are valuable! If you stand to make more than $10,000 with your options you should hire an accountant to walk you through this. Tax issues around options are complicated, particularly ISOs, and Ask Metafilter is not a substitute for financial advice.
So I understand right - is exercising is the act of buying and immediately selling the stock? Or just the buying part?
Exercising is just the act of paying the strike price on the option to buy the stock. Exercising costs you money. Then you can sell the stock (subject to restrictions). Selling makes you money. You can also do a "same day sale" once the stock is publically traded, where you exercise and sell at the same time.
Where it gets tricky is you may pay taxes on both transaction, both the exercise and the sale. A common strategy is for people to exercise options as soon as they can afford to, in the hopes they then hold the stock one year and qualify for lower taxes via long term capital gains. But for NQs you pay income tax on the paper gain at the time of exercise, and for ISOs you may be subject to AMT on that paper gain.
If you manage exercising and holding stock correctly and all goes in your favour, you can save yourself 20% or more on your tax bill. If you get it wrong or things go badly you can stick yourself with taxes on 100% of the stock value even though you haven't made any cash yet. The stakes are high enough you need an accountant to give you professional advice.
When the company goes public, is there a waiting period before options can be exercised?
It depends on the option plan. Typically you can still exercise the option whenever you want, but you usually can't sell the stock for some period after the IPO. 180 days is common.
Company goes public, and 2 months later the stock is trading at $20. If I exercise the options, I net $54,000. How much of that will be taxed?
If you exercise and sell the stock in 2 months, you will owe short term capital gains (ie: income tax rates) on the $54,000 net. For NQs it's common that this tax burden goes on your W-2. Usually the income is subject to withholding at the time of sale, the broker will do the withholding for you. But all these details depend on the specific stock plan.
is there any way anyone could explain this further? what's the point of vesting dates if you can ignore them and exercise whenever you want?
Early exercise is a valuable right some ISO programs give employees. It has advantages in that it lets you start the long term capital gains clock ticking sooner. It has dangers with capital risk and taxes, and again you need a professional to walk you through it. But just because you early exercise doesn't mean you own the stock; if you leave your job before those shares vest you typically have to return them to your employer.
posted by Nelson at 6:20 PM on October 7, 2007
So I understand right - is exercising is the act of buying and immediately selling the stock? Or just the buying part?
Exercising is just the act of paying the strike price on the option to buy the stock. Exercising costs you money. Then you can sell the stock (subject to restrictions). Selling makes you money. You can also do a "same day sale" once the stock is publically traded, where you exercise and sell at the same time.
Where it gets tricky is you may pay taxes on both transaction, both the exercise and the sale. A common strategy is for people to exercise options as soon as they can afford to, in the hopes they then hold the stock one year and qualify for lower taxes via long term capital gains. But for NQs you pay income tax on the paper gain at the time of exercise, and for ISOs you may be subject to AMT on that paper gain.
If you manage exercising and holding stock correctly and all goes in your favour, you can save yourself 20% or more on your tax bill. If you get it wrong or things go badly you can stick yourself with taxes on 100% of the stock value even though you haven't made any cash yet. The stakes are high enough you need an accountant to give you professional advice.
When the company goes public, is there a waiting period before options can be exercised?
It depends on the option plan. Typically you can still exercise the option whenever you want, but you usually can't sell the stock for some period after the IPO. 180 days is common.
Company goes public, and 2 months later the stock is trading at $20. If I exercise the options, I net $54,000. How much of that will be taxed?
If you exercise and sell the stock in 2 months, you will owe short term capital gains (ie: income tax rates) on the $54,000 net. For NQs it's common that this tax burden goes on your W-2. Usually the income is subject to withholding at the time of sale, the broker will do the withholding for you. But all these details depend on the specific stock plan.
is there any way anyone could explain this further? what's the point of vesting dates if you can ignore them and exercise whenever you want?
Early exercise is a valuable right some ISO programs give employees. It has advantages in that it lets you start the long term capital gains clock ticking sooner. It has dangers with capital risk and taxes, and again you need a professional to walk you through it. But just because you early exercise doesn't mean you own the stock; if you leave your job before those shares vest you typically have to return them to your employer.
posted by Nelson at 6:20 PM on October 7, 2007
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posted by smackfu at 12:49 PM on October 7, 2007