When storms hit, it’s human nature to want to hunker down and wait out the bad weather. No need to poke your head out until you see sunny skies, right? But stock options are an investment, and volatile times are not when you want to make knee-jerk investment decisions, or freeze due to uncertainty. Inaction is a choice in itself — so by not doing anything, you’re making a decision that could end up costing you.
It’s important to remember that like any financial investment, equity should be viewed as a long-term strategy. But, you still may want to, or have to, make short-term decisions, even during cloudy market conditions.
The silver lining of a down market is that it could lower the cost to exercise, or buy, your stock options. Dips happen, just like up (or bull) markets do, and bear markets are normal — happening every 3-4 years, on average, historically.
It’s also not uncommon to be making a job transition during these times. And that means you’ll likely have a unique window of time (called the Post-Termination Exercise Window) to either exercise, or buy, your stock options, or take advantage of a beneficial tax treatment.
Whatever your situation, now is a good time to to start learning about, and making a plan for, your equity.
Do you believe in your company in the long term?
This is the first question you’ll want to ask yourself when things are feeling rough. Do you still believe in the long-term vision of the company? Do you still believe that they have a strong product-market fit and will stay competitive in their market? Perhaps most importantly: Do you have any intention of moving on from the company? If you believe in your company, then you should also believe in the equity you can have in it.
Even if your company does go through a period of hiring freezes or layoffs, it doesn’t necessarily mean the company is on the rocks. Your leadership team is just extending its operating runway to better weather the storm. A timely example is Airbnb, which laid off 25 percent of its workforce (1,900 employees) in May of 2020 and then IPO-ed in December 2020. The company saw a valuation decline in April 2020, but it quickly recovered upon going public.
Just as your company is planning for rainy days ahead and protecting value, you also want to make sure you’re planning for your stock options. This allows you to ride out the storm, but, just as importantly, to be prepared for sunny skies to re-emerge.
Here’s how to plan proactively today to get the most out of your equity:
1. Get comfortable with the exercising process.
When the going gets tough, the tough get planning! If you don’t have a plan for your stock options, this is a good time to start getting familiar with exercising.
Why? Exercising can be costly and can come with tax implications. Like any other investment, you want to get ahead of the game to avoid unnecessary surprises or regrets. That way, you know what your options are and what levers you might need to pull in the worst case scenario. Planning will also give you peace of mind that you're making the right decisions based on your financial goals. If you need a jumping off point, our Equity Planner is a great place to start.
The exercising process effectively consists of the following steps:
- Pay your company the strike price to buy your stock options.
- Pay any associated taxes when you exercise. (Note: This is the key reason you want to have a plan! Taxes are not automatically calculated for you or taken out if they're ISOs. Plus, the tax amount can, and likely will, change.)
- As you file your annual tax return, pay any additional taxes you might now owe for owning your shares.
We also recommend working with an advisor to guide you through the exercising process and help you make tax-smart decisions along the way. Now is your chance to get ahead of tax planning and make choices that help you retain your hard-earned equity. (Last year, people paid $11 billion in unnecessary taxes, mostly because they were waiting for their companies to IPO. You don’t want to be part of that statistic!)
2. Know your Post-Termination-Exercise (PTE) Window.
Stock options do have an expiration date, and if you leave your company, that date could be sooner than you think. Even if you stay with the company, unexercised options expire after 10 years (just ask Elon Musk).
To get the most out of your stock options, you have to understand your PTE window, the period you have to exercise your vested incentive stock options (ISOs) if you leave the company — both voluntarily or involuntarily. Most employers allow just 90 days to exercise options before you lose them, so this deserves a spot at the top of your priority list, especially if you’re going through a career transition.
It’s also worth asking if your employer offers an extension beyond 90 days for exercising your stock options. Even if the company offers one, you may have to be employed for a specific amount of time, or there could be other criteria — for example, offering a multi-year window if you work there at least two years.
Extended PTE windows create additional flexibility for you to plan around. That said, extended window or not, you’ll lose the tax benefits of ISOs after 90 days when the options are converted to non-qualified stock options, NSOs. (More on ISOs and NSOs here. Essentially, ISOs are the more tax-advantaged choice.)
In any situation — whether it’s a 90-day or 10-year window — there are many different strategies you can explore. While the best strategy is usually the one that minimizes tax and maximizes value, it's not a black or white solution. Your personal plan should be based on your specific financial situation and goals. An advisor can help you evaluate factors such as exercise costs and tax implications to determine what choices and timing make sense for your personal financial situation.
3. Make low valuations work to your advantage.
We get it — a “low valuation” doesn’t exactly sound like a good thing. But think about it like this: lower valuations can mean reduced taxes when exercising, which could also result in increased upside for you. That’s because you’re taxed on the difference between your strike price and the Fair Market Value (or 409A valuation) at the time you exercise.
Many companies may be lowering valuations to reset alongside the market, precisely so that they’re better set up for an eventual exit. In the short-term, lower valuations provide an opportunity for you to invest in your company at a lower price point (remember, buying stock options is an investment).
Current market conditions and career transitions can be disconcerting — but turbulent markets and declining valuations are not the time to forget about your equity. In fact, it’s the opposite. This is your opportunity to talk to your advisor about strategic moves you can make today to save you on taxes and help you accomplish financial goals in the future.
Afterall, equity is an investment, so you should treat it like one. You've already been investing your time and hard work into the company. But you also want to remove emotions and rash judgements — such as getting thrown off by down markets — when evaluating the long-term value of the company, your equity, and your overall financial picture.
Want more insights into making the most of your equity during volatile times? Check out our recent webinar with Chris Arnold, Secfi's Lead Financial Planner.