Exercising startup stock options: the numbers to check first

An equity offer can sound precise while leaving out the information that matters. Ten thousand options tells you very little without the exercise price, the share count used to calculate ownership, the vesting schedule, and the terms that apply when you leave. Start with the signed grant and equity plan. A recruiting email is not a substitute for either.

If you run the company, make these facts easy to retrieve. An employee should not have to reconstruct a deadline from an old conversation. Give them their grant documents, an accurate vested balance, the applicable exercise instructions, and a contact who can resolve discrepancies. Ask counsel to confirm the dates when a departure or amendment makes them unclear.

Here is a hypothetical example. You can exercise 10,000 vested options at $0.20 per share. Buying them costs $2,000. If the fair market value is $2 per share, the difference between that value and the exercise price is $18,000. That difference may matter for tax even though nobody has offered to buy your shares. It is not $18,000 of cash in your pocket.

For U.S. federal tax purposes, ISOs and nonstatutory options follow different rules. An ISO exercise generally does not create regular income tax at exercise, but it can create an alternative minimum tax adjustment. For the common nonstatutory option without a readily determinable option value at grant, exercising generally creates income based on the stock's value less the amount paid. Your residence, timing, restrictions, and later sale can change the result. Have a tax professional calculate your case before you commit the money.

• IRS: stock options and tax treatment

The plan and grant determine the contractual exercise window. A tax rule affecting ISO treatment and the date your option expires are related questions, but they are not interchangeable. Do not rely on a generic forum answer saying everyone has 90 days. Ask for the actual expiration date in writing, including how the company treats your last day of service.

Early exercise is another separate question. Some plans permit buying unvested shares, subject to restrictions; others do not. If restricted stock is transferred, an 83(b) election may need prompt consideration. An ordinary unexercised option is not the same thing as transferred restricted stock. Getting this distinction wrong can mean tracking the wrong event or deadline.

• Our guide to the 83(b) election

Private shares can remain unsellable for years and can become worthless. A recent fundraising price does not promise that common stock will sell for the same amount. Before exercising, compare the purchase cost and potential taxes with the cash you need for living expenses. Do not build the decision around an assumed acquisition date.

For founders, the operational job is to keep approvals, grants, exercise notices, payments, and ownership records consistent. Tax advice belongs with the individual's advisor. A clean cap table is useful, but the underlying documents and payment evidence still matter.

• Confirm the grant type, vested quantity, exercise price, and expiration date.
• Request the current valuation information the company can provide.
• Model the purchase cost and taxes separately with your advisor.
• Keep the accepted exercise notice, payment evidence, and resulting share record.