How Do Employee Stock Options Work

In addition to the usual monetary rewards, American companies use their stock in a variety of ways to encourage their employees to make greater contributions and stay longer. Representative employee stock compensation systems used by US companies include 1. Stock Option, 2. Restricted Stock Award (RS), 3. Restricted Stock Unit (RSU), and 4. Employee Stock Purchase Plans (ESPPs).

1. Stock Options

– The right to purchase a fixed number of shares at a fixed price (exercise price or strike price) within a certain period of time.
– In the future, when the size of the company grows and goes public, employees can buy the company’s stock at a lower price than the face value or market price. However, if the value of the company falls, there is no meaning to exercise the stock option.
– In order to encourage long-term service, there is a vesting condition in which an option can be exercised only after a certain period of time has elapsed. Receive 25% of stock options, and the remaining 75% in equal monthly payments for the remaining three years).
– This system is mainly used by startups that lack initial capital and unlisted companies in the early stages of growth.

2. Restricted Stock Award (RS)

– A type of treasury stock awarded to employees according to a vesting schedule.
– Basic rights of shareholders such as voting rights and dividend rights are guaranteed.
– Restrictions such as forfeiture of stocks that have not yet been received if they leave the company before vesting or fail to deliver the promised performance
– Long-term capital gain tax benefits can be obtained using the 83(b) election. You must report it to the IRS within 30 days.

3. Restricted Stock Unit (RSU)

– A system that promises to provide a fixed number of stocks or cash equivalent to the value of the stocks to employees free of charge when certain conditions such as a specific point in time or business performance are met in the future.
– Unlike RS, employees do not have basic shareholder rights such as voting rights and dividend rights until the vesting schedule has passed and they are granted shares.
– 83(b) election cannot be used.
– It is widely used by medium-sized technology companies, publicly traded companies, and large enterprises.

4. Employee Stock Purchase Plans (ESPPs)

– A system in which employees can purchase company stocks at a discount (about 5-15%) with their salaries.
– When you purchase stocks at a discount, you must pay income tax on the discount applied.