It's important that you understand what employee stock options are, how they work, and what they add to your benefits package. Here are some of the basics.

The Basics of Understanding Your Employee Stock Options

Many companies provide benefits in addition to salary as a means of showing appreciation to their employees and/or increasing hiring pools and employee retention. Benefits are an excellent way to remain competitive when it comes to hiring and retaining talent.

Benefits often include health insurance for employees, and in some cases family members. A company’s benefits package may also include life insurance, a 401K (and matching contributions), a pension plan, and paid days for vacation and sick leave. Often, benefits also include some kind of stock.

It’s important that you understand what employee stock options are, how they work, and what they add to your benefits package. Here are some of the basics.

Stock versus Stock Options

You might think that stock options are the same as stock, but this is not the case. When you are granted stock, you receive actual shares of stock in the company at no cost. Employee stock options (ESOs), on the other hand, allow you to purchase shares at a set price, generally lower than the market value at the time they are granted.

You should also know that ESOs are different from ESPPs (Employee Stock Purchase Plans), which allow any employee to put pre-tax income into an account for the purpose of purchasing company stock. The account grows for a set amount of time (six months or a year, for example), after which employees are allowed to purchase stock at the lowest price for that period using the money in their ESPP account.

Terms

When ESOs are granted to employees, they generally feature set terms for the number of shares granted, the dates on which they vest, and the cost for purchase. Shares could number in the tens, hundreds, or thousands, depending on company guidelines, your position, and so on. They may be granted on hire, as a bonus, or as some other type of reward.

Generally speaking, ESOs do not vest immediately. Often, they vest in segments. For example, you may be granted 600 shares that vest in equal segments each year for three years following your hire date. So if you stay with the company a year, your first set of 200 shares will vest. If you stay for three years, all of your shares will have vested.

When ESOs vest, you have the option to purchase the stock granted to you. This doesn’t mean you have to buy it or that you have to do so right away. There is usually a time frame allowed for you to decide.

The cost of ESOs is decided at the time they are granted and it usually reflects a price below market value. If you’re lucky, the stock value will increase before your options vest, allowing you to purchase stock and immediately sell some of the shares to recoup your costs. You can then hang onto remaining shares or sell them for profit.

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