- RSUs (restricted stock units) and options are two types of equity compensation that companies may offer to their employees.
- RSUs are a promise to deliver a certain number of company shares to the employee at a future date, while options give the employee the right to buy company shares at a predetermined price, known as the strike price.
- RSUs typically vest over a period of time and are taxed as ordinary income when they are delivered to the employee, while options may have a vesting period and are taxed differently depending on whether they are non-qualified or incentive options.
- RSUs do not require the employee to make any investment, while options may require the employee to pay the strike price to exercise the option and buy the company shares.
- RSUs may offer more certainty for the employee because they receive a set number of shares at a future date, while options may offer the potential for higher returns if the stock price increases above the strike price.
When it comes to startup compensation packages, stock options and RSUs (restricted stock units) have been the traditional go-to incentives. But what’s the difference between them? Are they interchangeable? Do they both provide the same level of benefit to employees? In this blog post, we’ll be taking a deep dive into the differences between RSUs and options, examining the pros and cons of each and how you can use them in your employee compensation package. By the end, you’ll have a better understanding of which one is right for your company.
There are a few key takeaways from this article:
1. RSUs are granted to employees, whereas options are available for purchase by anyone.
2. RSUs are valued based on the stock price at vesting, while options are traditionally valued at the time of grant.
3. RSUs always result in actual shares, whereas options may or may not depending on the strike price and stock price.
4. Taxes on RSUs are due at vesting, while taxes on options are due when they are exercised.
What are RSUs?
RSUs are “restricted stock units” that are typically awarded to employees at a company. They are similar to stock options in that they give the recipient the potential to earn money from the appreciation of the underlying stock, but they differ in a few key ways.
First, RSUs are not “options” – you do not have the option to buy or sell the underlying stock, you are simply given the units. Second, RSUs typically vest over time, meaning you cannot cash them in immediately like you can with stock options. Finally, RSUs are taxed differently than stock options – you will pay taxes on the value of the units when they vest, rather than when you exercise your option.
Overall, RSUs can be a great way to earn money from your company’s success without having to put any money down upfront. However, it is important to understand how they work and how they will be taxed before accepting any grant.
What are Stock Options?
Stock options are a type of security that give the holder the right to buy or sell shares of a company at a set price within a certain time frame. They are often used as a form of compensation for employees and executives.
There are two types of stock options: incentive stock options (ISOs) and non-qualified stock options (NQSOs). ISOs are only available to employees and have special tax benefits. NQSOs can be granted to anyone, but do not have the same tax benefits.
The main difference between RSUs and stock options is that RSUs are always worth something (even if the stock price goes down), whereas stock options may be worthless if the stock price falls below the strike price. Another key difference is that RSUs vest all at once, while stock options typically vest over time.
How Do RSUs work?
RSUs are grants of company stock that vest, or become available to the employee, over time. The number of shares and vesting schedule are set at the time the grant is made. Vesting may occur all at once (on a cliff) or may be spread out over a period of years (graded vesting).
When RSUs vest, the employee receives the number of shares that have vested. The employee can then either sell the shares, hold on to them, or exercise them if they are options. RSUs typically do not have an expiration date and will vest even if the employee leaves the company.
The main difference between RSUs and options is that RSUs always result in actual shares of stock whereas options give the holder the right to purchase stock at a set price (the strike price). Options can expire worthless if the strike price is never reached.
How are RSUs taxed?
When it comes to RSUs, the taxes are generally pretty straightforward. Unlike stock options, which have a complex tax treatment, RSUs are taxed as soon as they vest. This means that you’ll pay taxes on the value of the RSU at the time it vests, even if you don’t sell the shares.
The upside of this is that you don’t have to worry about the timing of your sale and how it will impact your taxes. The downside is that you may end up paying more in taxes if the stock price goes up after vesting.
If you hold onto the shares after they vest, you’ll pay capital gains taxes when you eventually sell them. The amount of tax you owe will depend on how long you held the shares and what tax bracket you’re in when you sell them.
In general, RSUs are a bit simpler from a tax perspective than stock options. However, it’s still important to talk to a tax advisor to make sure you understand the implications before making any decisions.
How are Incentive Stock Options and Nonqualified Stock Options Taxed?
When it comes to taxes, there are two main types of stock options – incentive stock options (ISOs) and nonqualified stock options (NSOs). Both types of options are subject to taxation, but they are taxed in different ways.
ISOs are only taxed when the shares are sold. The difference between the sale price and the grant price is treated as either a long-term or short-term capital gain or loss, depending on how long the shares were held. If you sell the stock you receive by exercising your options no earlier than 1 year from exercise and 2 years from the grant date, you’ll be able to pay long-term capital gains tax on the difference between the purchase price (strike price) and the sale price of the stock, which are definitely preferential to ordinary income tax rates.
Your purchase price/strike price is a predetermined price that you’re permitted to purchase the stock at.
There can be an additional tax when ISOs are exercised if your options are particularly valuable and you earn a large salary that’s called “alternative minimum tax”. If you earn over 200k per year and your options are worth over 100k, you may be subject to alternative minimum tax depending on your tax circumstances. It’s important for high earners to work with a tax professional to ensure they don’t make any mistakes.
NSOs are subject to both income tax and payroll tax. The income tax is calculated on the difference between the exercise price and the fair market value of the shares at the time of exercise. The payroll tax is calculated on the entire value of the shares at the time of exercise.
The Difference Between RSUs and Options
There are two main types of equity compensation: restricted stock units (RSUs) and stock options. Both RSUs and options give the recipient the potential to profit from the growth of a company, but there are important differences between the two.
RSUs are grants of company stock that are subject to vesting conditions, typically based on length of service or achievement of performance milestones. Vesting typically occurs over a period of four years, meaning that the employee must remain with the company for at least four years in order to receive the full grant. Once RSUs vest, they can be sold or exchanged for company stock.
Stock options are also grants of company stock, but they are not subject to vesting conditions. Options typically have an exercise price that is set at the time of grant and a limited time period during which they can be exercised. Unlike RSUs, options can be exercised at any time during the option period, regardless of whether the employee is still employed by the company.
The key difference between RSUs and options is that RSUs have mandatory vesting while options do not. This means that employees who receive RSUs will always receive some amount of company stock (assuming they don’t leave the company before their units vest), while employees who receive options may never exercise their option and receive any company stock.
Pros and Cons of RSUs and Options
If you’re new to the world of startup compensation, you may be wondering what the difference is between stock options and restricted stock units (RSUs). Both are forms of equity compensation that can be offered to employees, but they differ in a few key ways.
Let’s take a closer look at RSUs and options so you can make an informed decision about which is right for you.
What are RSUs?
A restricted stock unit is a grant of company stock that is subject to vesting conditions. What’s great about RSUs is you actually have an equity stake in the company you work for. Vesting typically occurs over a period of time or when certain conditions are met, such as achieving performance milestones.
Once RSUs vest, they can be sold or converted into company stock. Unlike options, there is no exercise price associated with RSUs – you will receive the shares outright once they vest.
What are Options?
Stock options give employees the right to purchase company shares of company stock at a set share price (the strike price) until some predetermined future date. The employee does not have to purchase the shares – they simply have the option to do so if they choose.
Options typically have a vesting date, similar to RSUs. However, unlike RSUs, options will expire if they are not exercised within the specified timeframe. For example, if an option has a four-year vesting period and it’s not exercised within that timeframe, it will expire and the employee will forfeit their right to purchase their company stock at the predetermined share price.
Are RSUs worth it?
When it comes to your compensation as a startup employee, you may be wondering whether RSUs or options are better. Both have their pros and cons, but ultimately it depends on your individual situation. Here’s a look at the difference between RSUs and options:
With RSUs, you are granted a certain number of shares of the company’s stock, which vest over time. This means that you will own those shares outright and can sell them as soon as they vest. Options give you the right to purchase shares of the company’s stock at a set price (the strike price), which can be exercised at any time up to the expiration date. If the stock price is above the strike price when you exercise your option, you will make money. If it is below the strike price, you will not.
So, which is better? It depends on a few factors. If you think the company’s stock will go up in value, then options are probably a better bet since you can make money if the stock price goes up. However, if you think the stock price might fall or if you just want the certainty of owning shares outright, then RSUs may be the better choice. Ultimately, it comes down to what you think will happen with the company’s stock and what kind of risk you’re willing to take.
Which One is Right for You?
If you’re new to the world of equity compensation, you may be wondering what the difference is between RSUs and options. Both are types of stock awards that can be given to employees, but there are some key differences that you should be aware of.
RSUs, or restricted stock units, are a type of stock award that is given to an employee and vests over time. This means that the employee will gradually earn the right to own the shares over a period of time. The benefit being you know that RSUs will absolutely have value at some point in time in the future. Because the company is essentially giving you a “stock bonus” that vests over a period of time and they have a limited number of shares of stock, this is the lower risk and potentially less valuable option depending on the performance of the company’s stock.
Options, on the other hand, are a type of stock award that gives the recipient the right to purchase shares at a set price (known as the strike price). Options generally vest all at once, so the employee will have the full right to purchase shares immediately.
So, which one is right for you? It really depends on your situation and what you’re looking for. If you want immediate ownership of shares, then options may be a better choice. However, if you’re willing to wait a bit longer for your shares, then RSUs may be a better option.
Our Take: RSUs vs. Stock Options
There are two types of equity compensation that companies can offer to employees: stock options and restricted stock units (RSUs). Both are beneficial to employees, but there are some key differences between the two.
Stock options give employees the right to purchase company stock at a set price, regardless of the stock’s current market value. This is an attractive benefit because it allows employees to buy shares at a discount and then sell them later for a profit. However, stock options can also be a risky investment because the stock price could go down, leaving the employee with less than they invested.
RSUs are basically free company stock that is given to an employee. The employee does not have to pay anything for the shares and they vest (become owned) after a certain period of time, typically four years. RSUs are less risky than stock options because there is no downside risk – even if the stock price goes down, the employee still owns the shares.
Alternatively, ISOs and NQSOs can be worth substantially more in some scenarios. Because ISOs have more risk, you typically get more of them than you would RSUs. In addition, if the company’s stock does very well, it has no impact on your purchase price. For example, would you rather have 100 shares of stock that are worth $1000 each or the ability to buy 2000 shares of stock for $100 each that was worth $1000/share? Of course, the second option.
Alternatively, I’d rather have 100 shares of stock from RSUs that are worth $100 each than 2000 RSUs with the predetermined purchase price of $100 (aka no discount at all).
So, which is better – RSUs or stock options? It depends on your personal financial situation, the profitability and growth trajectory of your company, and your personal financial goals. If you’re looking for immediate income, then RSUs may be the better choice since you don’t have to pay anything for them. However, if you’re willing to take on more risk for the potential of greater reward, then stock options may be the way to go. If you need help negotiating, contact a personal financial advisor who can give you the advice that you need.
This article has outlined the key differences between RSUs and options, two of the most popular forms of employee compensation. Both are excellent tools for companies to reward their employees while also increasing their long-term commitment and performance. The decision ultimately comes down to what type of rewards structure best suits your company’s goals and objectives. Consider both carefully before making a decision so that you can make the best choice for your team.