by Jason Pryor
Many companies offer their employees benefit programs that include everything from medical insurance to a 401(k) retirement plan. But, if you belong to a select group of leaders in your company, you may also have another benefit that could prove to be extremely valuable. For the first time in your career, you could have access to employer-granted stock options.
A stock option is the right to purchase a company’s stock in the future at a fixed price. When you exercise an option, you purchase shares of the company’s stock directly from the company at the grant price, a price set by the company at the time the stock option grant is made. The timing and strategy used when exercising stock options is tied to four primary variables: vesting, expiration, taxes and stock price. While you may be able to make big profits on your options if the stock price appreciates substantially beyond the grant price you will pay, there are other things like vesting schedules, expiration dates and the rules guiding the various types of options you may want to consider before taking any leaps. Below, we will explore the specific rules regarding vesting schedules and expiration dates.
Vesting Schedules: Most options are granted subject to a vesting schedule, which refers to the dates on which options can be exercised. This schedule may significantly affect the timing of your option exercises so you should be well versed on your company’s rules. By instituting a vesting schedule, an employer may require you to complete a period of service after the option has been granted before it can be exercised.
Most often the schedule will either be on a graduated or cliff-vesting format. If it is a graduated vesting schedule, some percentage of the options become exercisable at regular intervals over a certain period. For example, a common vesting schedule requires that employees wait one year from the grant date before any of the options are exercisable. On the first anniversary of the grant date, 20 percent of the options can be exercised. Under this type of schedule, the remaining options will continue to vest at the rate of 20 percent per year for the next four years until all of the options are fully vested.
The cliff vesting schedule stipulates that the options will all become available at some future time. A common cliff-vesting schedule provides that none of the options granted can be exercised within the first three years following the grant date. On the third anniversary of the grant date, all of the options are immediately available for exercise.
Expiration Dates: Expiration dates refer to the end of the option’s life. Stock options are usually granted for a specific period and must be exercised within that period. A common option term is 10 years, after which, the option expires. You should be aware of the terms of your stock option plan with respect to any changes in these dates.
Employer-granted stock options can be a very valuable addition to your compensation package and your portfolio. Just remember to remain well-versed in the rules of your company’s plan so you can continue to benefit for many years to come.
This article was provided courtesy of K. Jason Pryor, Registered Representative with Dominion Capital Partners in Norfolk & Richmond at 804-986-1121. Securities offered through Prospera Financial Services, Inc., Member FINRA/SIPC.
Accounts carried through First Clearing, LLC, Member NYSE / SIPC.