Understanding Equity When Considering A Role
One way startups attract great talent is by issuing equity as part of their compensation package. Today, we’ll pull from different sources to paint a full understanding of what you need to know about equity as you consider job opportunities.
Odds are the equity you are offered will fall into the common stock bucket. When you are issued common stock, you are granted the right to purchase a certain number of shares at an agreed-upon price at the time of hire. The right to those shares is dependent on a specified vesting schedule.
If you’re a full-time employee, those stock options fall into the incentive stock option (ISO) category, which is more favorable from a taxation perspective.
Companies can also issue non-qualified stock options (NSO) to consultants and later-stage employees. NSOs have higher tax implications, however, so understand what type of common stock is being offered.
Note again, common stock is not free. If you are granted the right to 10,000 shares at a $2/share price, you will have to pay $20,000 to exercise your stock options. If that isn’t something you are prepared to do, then equity should not be a motivator in taking the job.
RSAs / RSUs
An alternative to common stock is restricted stock awards (RSA) or restricted stock units (RSU). Should the company you’re considering using this type of structure, you will not have to pay for the options granted, but rather, it is tied to meeting certain obligations, and they are then issued to you as a grant.
An additional benefit of RSAs and RSUs is that you come out ahead as long as the stock price doesn’t fall to $0. That’s because you paid $0 in, while common stock must see an increase in share value above the price you paid for those shares.
RSAs can be common in early-stage pre-revenue startups, while RSUs will be found in later-stage startups.
Rarely do we see preferred stock issued to employees, so we won’t spend much time on it here, but it is important to know that at a liquidity event or bankruptcy, preferred stockholders are paid out first. To understand how that can impact you as a common stockholder, check out this 2016 article from Yahoo! Finance, “Startup Employees Think They Are Going To Get Rich — Then A Horror Story Like This Happens.”
Additional Types of Stock Options
In addition, see if the company offers employee stock purchase plans (ESPP), performance shares, stock appreciation rights (SAR), or phantom stock. Most of those options are only available in more mature organizations, however.
Know Your Vesting Schedule and How It Works
Read the fine print and know whether or not you forfeit your unvested shares upon ending employment with the company.
Consult Your Accountant/Tax Attorney
It’s key to understand the tax implications of your equity once it has been granted. Equity will impact your income tax and/or capital gains.
You can never remove the risk involved with equity, but we hope this helps you to better evaluate your opportunity.
- Carta: Equity basics for founders
- Carta: RSAs vs. RSUs
- Yahoo! Finance: Startup Employees Think They Are Going To Get Rich — Then A Horror Story Like This Happens
- NerdWallet: Equity Compensation: Quick-Start Guide to Plans and Benefits
- Harvard Business Review: Everything You Need to Know About Stock Options and RSUs