How does employee stock option work?

Stock options are probably the most well-known form of equity compensation. A stock option is the right to buy a specific number of shares of company stock at a pre-set price, known as the “exercise” or “strike price.” You take actual ownership of granted options over a fixed period of time called the “vesting period.” When options vest, it means you’ve “earned” them, though you still need to purchase them.

You can use Empower’s online dashboard to keep track of your stock options over time. Using the stock options calculator, you can track the current and projected value of your stock options along with their vesting schedule, whether your company has gone public or not.

Stock options are commonly used to attract prospective employees and to retain current employees.

The incentive of stock options to a prospective employee is the possibility of owning stock of the company at a discounted rate compared to buying the stock on the open market.

The retention of employees who have been granted stock options occurs through a technique called vesting. Vesting helps employers encourage employees to stay through the vesting period in order to take ownership of the options granted to them. Your options don’t truly belong to you until you have met the requirements of the vesting schedule.

Are employee stock options a good idea?

The benefit of a stock option is the ability to buy shares in the future at a fixed price, even if the market value is higher than that amount when you make your purchase. Your ability to exercise your options is determined by a vesting schedule, which lists the number of shares an employee can purchase on specific dates.

For example, an employer may grant you 1,000 shares on the grant date, with 250 shares vesting one year later. That means you have the right to exercise 250 of the 1,000 shares initially granted. The year after, another 250 shares are vested, and so on. The vesting schedule also includes an expiration date. That's when the employee no longer has the right to purchase company stock under the terms of the agreement.

The price at which the employee can purchase shares is known as the exercise price. In most cases, it's simply the stock's market value on the grant date. If the stock price goes up by the time you vest, your option is considered "in the money," meaning you can buy the shares at a lower price than they're now worth.

There are two main types of employee stock options—non-qualified stock options (NSOs) and incentive stock options (ISOs). One difference between them is eligibility. Companies can grant the former to employees, consultants, and advisors; however, only employees can receive ISOs. But the biggest distinction is how they’re treated for tax purposes at the exercise date.

What is a qualified employee stock option in Sweden?

Under Swedish tax rules, option programs directed to employees are mainly classified as securities or employee stock options. Gains realized on securities are generally taxed as capital gains, although exemptions can apply for companies with a limited number of shareholders, and the exercise of an option classified as a security does not trigger tax consequences. However, granting or transferring a security to an employee at a price below fair market value will constitute a taxable benefit taxed as salary income. Employee stock options, on the other hand, are not taxed upon grant or allotment. Instead, exercise of an employee stock option triggers a taxable benefit for the employee valued at the difference between the strike price paid and the fair market value of the acquired share.

Securities, for Swedish income tax purposes, are characterized mainly by the ability of the holder to transfer the security to another person. Certain securities, such as shares and warrants issued pursuant to Swedish company law, have an inherent transferability for the holder which generally prevails over restrictions imposed through agreements between the employee and the employer. Employee stock options, on the other hand, are characterized by a strong connection to continued employment and non-transferability.

How are stock options taxed in Sweden?

All remuneration from employment, whether in cash or in kind, is treated as taxable income. Director’s fees, bonuses, commissions, pensions, annuities, allowances, tax equalisation payments, and incentives (e.g. stock options, share programs) are considered as employment income. A housing benefit, a company car, and free meals are the major taxable benefits in kind. Compensation is normally taxed when paid out (cash principle). Specific rules apply for incentives that are subject to restrictions.

Premiums to employer pension plans, which do not qualify as tax favourable pension plans under Swedish law, may be considered taxable income for the employee.

Loans from an employer to an employee at low or no interest are deemed to generate a taxable benefit. The taxable benefit is deductible as an interest cost. Note that members of management and shareholders may not be allowed to lend money from the employer due to the Swedish financial assistance rules.

What happens to my stock options if I quit?

Leaving your job, whether or not such a departure is voluntary, is a stressful time for employees. However, as you pack your belongings and send out your goodbye emails, you should ensure that you are not forgetting about your stock options. Too often, employees lose out on sizable earnings because they are unaware of the vesting terms and the post-termination exercise period of their stock options.

The post-termination exercise period is the period after the end of your service with your employer during which an option must be exercised before it expires. Often, vested stock options permanently expire if they are not exercised within the specified timeframe after your termination of service.

Is an ESOP good for employees?

An ESOP is an Internal Revenue Code (IRC) section 401(a) qualified retirement plan. Unlike 401(k) plans and other similar qualified retirement savings plans, all ESOP contributions are made by the company — not employees.

Instead, over time in accordance with a documented vesting schedule, employees acquire appreciating equity in the value of the company. That company equity is expressed in terms of company stock ownership. Stock is held on behalf of employees by an ESOP trust, which is created at the time of ownership transition.

At retirement or termination of employment, the ESOP company repurchases the employee’s shares. The ESOP company’s distribution policy defines and documents when and how plan participants receive distributions, in accordance with IRC distribution requirements.

What is the bad side of ESOP?

When a legal or financial professional tells you an ESOP is too complicated, one thing is certain: The advice is not coming from someone with significant ESOP experience.

Think about how many complicated subject areas you deal with in life: taxes, IT, real estate, and a lot more. Anything outside your own expertise might seem complicated to you. So what do you do when you need a solution in any area that seems too complex for your comfort? You seek the advice of an experienced professional to make sure you get all the details right, and plan ahead to avoid unnecessary obstacles or complications. On average, an ESOP sale takes about 120 days to complete. Compared with sometimes years-long timelines of third-party sales, or the complex negotiations of mergers and acquisitions, an ESOP offers a manageable and even predictable timeline.

Bottom line: Yes, an ESOP transaction can be complex, and ongoing management can require professional services. But you don’t let that get in the way of installing an HVAC system or using computers. Don’t let complexity take an ESOP off the table.

It’s true that costs are associated with an ESOP transaction. But if an ESOP is right for your business, your annual tax savings and company cash flow savings will be greater than annual ESOP expenses. Over time, the sale of the company to the ESOP is paid for by those savings.

Now, is this true across the board for every business? No. If your profitability and current tax situation point to annual tax and cash flow savings that would not offset the ESOP cost, a scrupulous ESOP advisor will make that clear and suggest other alternatives for your exit strategy.

Bottom line: If an ESOP is right for you, you’ll see that the costs are worth the outcome.

Should you reward your CEO with stock options?

The responsiveness of CEO compensation to firm value -- that is, the percentage change in compensation from the prior year divided by the percentage change in firm value -- more than tripled from 1980 to 1994, rising from 1.2 to 3.9.

The exploding use of stock options to compensate executives has increased CEO pay significantly. But the justification that CEOs and corporate boards most often give for generous stock options -- that they effectively link pay to performance -- is often scoffed at. And in years of academic research, study after study has shown little relationship between CEO compensation and corporate performance.

What is the most common employee stock option?

A company typically awards stock options through grants. Your grant provides all details of your equity plan, including how the company will award the equity compensation.

The two main types of stock options are incentive stock option s (ISOs) and nonqualified stock options (NSOs). The primary difference between the two stock options lies in how the stock options are taxed.

What is the average employee stock option?

The term employee stock option (ESO) refers to a type of equity compensation granted by companies to their employees and executives. Rather than granting shares of stock directly, the company gives derivative options on the stock instead. These options come in the form of regular call options and give the employee the right to buy the company's stock at a specified price for a finite period of time. Terms of ESOs will be fully spelled out for an employee in an employee stock options agreement.

In general, the greatest benefits of a stock option are realized if a company's stock rises above the exercise price. Typically, ESOs are issued by the company and cannot be sold, unlike standard listed or exchange-traded options. When a stock’s price rises above the call option exercise price, call options are exercised and the holder obtains the company’s stock at a discount. The holder may choose to immediately sell the stock in the open market for a profit or hold onto the stock over time.

Corporate benefits for some or all employees may include equity compensation plans. These plans are known for providing financial compensation in the form of stock equity. ESOs are just one type of equity compensation a company may offer. Other types of equity compensation may include:

Restricted Stock Grants: these give employees the right to acquire or receive shares once certain criteria are attained, like working for a defined number of years or meeting performance targets.

Stock Appreciation Rights (SARs): SARs provide the right to the increase in the value of a designated number of shares; such an increase in value is payable in cash or company stock.

There are two key parties in the ESO, the grantee (employee) and grantor (employer). The grantee—also known as the optionee—can be an executive or an employee, while the grantor is the company that employs the grantee. The grantee is given equity compensation in the form of ESOs, usually with certain restrictions, one of the most important of which is the vesting period.

The vesting period is the length of time that an employee must wait in order to be able to exercise their ESOs. Why does the employee need to wait? Because it gives the employee an incentive to perform well and stay with the company. Vesting follows a pre-determined schedule that is set up by the company at the time of the option grant.

What is the tax rate for bonuses in Sweden?

In Sweden, most people pay only local tax on their annual income. This tax varies depending on municipality and ranges from 28.98 per cent to 35.15 per cent. Sweden's average local tax rate is 32.34 per cent.

Earners above a certain income threshold set by the Tax Agency (link in Swedish) also pay 20 per cent state tax.

The Swedish tax system includes a so-called basic deduction, a sum that is exempt from the taxable income. The sum differs depending on whether a person is under or over 65, see link above.

What is the ten year rule in Sweden?

Premiums to employer pension plans, which do not qualify as tax favourable pension plans under Swedish law, may be considered taxable income for the employee.

Do you lose stock options if fired?

Pictured: Person checking stocks on phone/Courtesy CC0/MaxPixel

For many biopharma companies, stock options are a great way to find and retain loyal talent, and for employees, stock options are attractive because they signal a potential long-term reward.

When should you cash out stock options?

What happens to ESOP if you quit?

First things first, depending on where you are in the world, these terms might be called differently. For the purpose of understanding this guide, let's define these terms:

Do stock options really motivate employees?

Many business owners find that offering stock options to employees improves morale. When employees are given a share of ownership in the company, they will enjoy coming to work. They know that their efforts will directly impact their financial situation and will be more willing to work together.

What does it mean when your employer offers stock options?

When a company offers stock options to its employees, it is offering them an opportunity to purchase ownership in their company, usually by offering employees the opportunity to buy a specified number of shares of their employer’s stock within a set time period and at a price established by the company.

When to exercise employee stock options?

“As long as possible” means right before your options are set to expire. Employee’s stock options are issued with an expiration date. The expiration date is the final day you can exercise your stock options. Any “in the money” value in the option will be lost if you don’t exercise before the options expire.