Should you sell your pre-IPO startup stock options on the secondary market?
Is your current or previous employer on the path to going public? Congrats, it’s an exciting time! If you’re already a shareholder or thinking of exercising your stock options to become a shareholder, your mind has probably jumped ahead to the finish line: Selling your shares and (hopefully) unlocking a nice gain.
But when should you sell your startup shares? You’re eager to cash in on all your hard work but want to sell at just the right moment. The analysis paralysis can feel very real.
There's no perfect time to sell your startup stock, but a “do nothing” strategy is usually the least advantageous. You can start building a plan by learning about the type of options you have and how timing could impact your taxes. Getting clarity around your financial goals can also help you choose when to sell your shares.
Let’s walk through five considerations that can help you feel more powerful in your decision.
1. Type, timing and taxes: What’s your situation?
Selling your startup stock will impact your tax bill. How much you owe depends on several things, including:
- Whether you have ISOs, NSOs, or RSUs
- How long you’ve held the stock
- Your strike price, and 409A valuation (also known as fair market value) when you bought your stock
- How much the shares are worth when you sell them
- Your state of residence and income bracket
You may be able to make choices that reduce how much you owe in taxes. If you own shares for at least 12 months before selling them, you’ll pay less in taxes if and when you sell those stocks at a gain. This is thanks to the long-term capital gains tax rate, which is generally lower than the tax rate applied to gains from shares held for less than a year. So, the earlier you exercise, the sooner you can sell your shares and still take advantage of long-term capital gains.
The specific numbers differ from person to person. Add your details to our Stock Option Tax Calculator to see what taxes you may owe and review strategies to reduce the taxes upon selling.
A word about timing: You’ll likely be subject to certain windows when you aren’t able to trade. For example, after the IPO, there’s usually a lock-up period of 90 or 180 days where employees can’t sell their shares. There may be “early releases” from the lock-up, allowing you to cash out a small amount early on.
Public companies also commonly have blackout periods when employees can’t trade their shares in the company, usually surrounding the announcement of quarterly and annual financial results.
It’s important to be familiar with your trading windows so you can nail the timing and properly execute your strategy. Ask your current or former employer about key dates and keep an eye out for communications during the exit process.
2. What are your financial goals?
Are you primarily focused on the short term? Maybe you’ve been planning to remodel your kitchen, get a vacation home or finally get a new car. Or perhaps your focus is on longer-term goals, like funding your retirement or covering college expenses.
While holding your shares for at least 12 months can secure beneficial tax treatment, that timeline isn’t necessarily a fixed target. Maybe you really need that new car now or your HVAC system broke down. If you have an immediate need that can’t be put off, selling your shares and using the gains could be a better alternative to taking out a loan or accruing debt. In some cases, you might want to act now if you expect costs to rise.
Clarity around your goals can help you strike a balance between unlocking cash to meet short-term goals and managing upside potential to meet longer-term targets.
3. Can you stay objective?
You may be excited to hang on to your startup shares because you think they have great potential to increase in value. It’s natural to be optimistic about the value of your company. After all, you work(ed) there for a reason!
On the other hand, you might have a less-than-rosy outlook for the company and want to sell before the value declines.
In any case, try to stay objective. Once your company goes public, a wide variety of investors will be able to trade the stock. They probably won’t all share your views, which means the share price will likely move differently than you think it should.
4. Are you letting taxes dictate (everything/too much)?
It’s sensible to want to capture the advantages of long-term capital gains tax rates. As you’re waiting, though, the stock price could decline, putting your primary financial goals in jeopardy.
Taxes can also cloud your thinking around the choice to exercise your options. You may be tempted to not exercise your options ahead of the IPO because the immediate tax bill would be too burdensome. However, if you wait and opt instead for a cashless exercise, you could be minimizing your gains by paying the highest possible tax rates.
Non-recourse financing can help you exercise before an exit. You can get the cash you need to purchase your options prior to an IPO and cover the immediate tax bill.
5. Do you need to diversify?
It's risky to have a large chunk of your worth in any single investment or asset class, whether it be a real estate project, cryptocurrency, meme stock or shares in a startup.
The risk is particularly elevated when you’re too heavily invested in your current employer’s stock, as you already count on the success of the business to pay your salary and benefits.
How much money you should have in any given investment will depend on several factors, including your net worth and risk tolerance. You may need to sell shares to improve your diversification, even if there are tax implications.
We hope these considerations are a helpful starting point. To make the best decision, you should consult your tax professional and/or financial advisor about your unique needs and goals.
Looking for more information?
Secfi is here to help. Our team of experts is happy to discuss all things equity and can help you sell stock options on the secondary market. We offer personalized insights designed to help startup employees make the most of their stock options. Get started today.