When Should I Cash Out My Stock Options?

When Should I Cash Out My Stock Options?

Employee stock options can be a great way to achieve substantial wealth. The difficulty is it can disappear quickly if not addressed properly.

Something that has really dawned on me after helping executives with these decisions over many market cycles, is that option wealth is usually a once in a lifetime event. Not realizing this, many executives place more emphasis on where they think the stock will go than on their long term goals. This is further complicated by the general excitement they can have for a company they founded or helped build to be very successful.

Recently, I was helping an executive that had the majority of their net worth in options think through the issues. I thought it might be helpful to list some key questions we reviewed that would be relevant to anyone in this fortunate, yet complex situation.

1) Does the current after tax value of the options allow you to be financially independent today? If so, it may mean it’s time to take risk off the table to secure the future. If not, you may want to let run since you are still in wealth accumulation mode.

2) What are the tax implications? With some stock options, you can pay less tax if you exercise and hold the stock for at least a year. With others, there’s no tax benefit to waiting.

3) What are the risks of exercising and holding? The risks are often higher than the benefits. Upon exercise, there may be taxes. If the stock declines, you’ll still be on the hook for the taxes. Also, the expected return of the stock would need to be sufficiently high to offset the concentrated holding risk.

4) Who is affected by this decision and how are they impacted? When you explore this question, you might realize it’s more than just your family. For example, if you have philanthropic goals, there may be many people beyond your family that will be impacted.

5) Has your lifestyle expenses increased ahead of exercising the options? It’s important to realize option wealth isn’t real until the options have been exercised and sold. Up until that point, the wealth is on paper and subject to considerable concentrated holding risk. If your current lifestyle is dependant on the current option value, it’s crucial to take some risk off.

The decision points around stock options can be complex, but they are surmountable. Since future option values are so unpredictable, finding the time to formulate a strategy around realizing the option wealth is essential.

If you would like me to address other issues about employee stock options, feel free to drop me a line.

Ben Johnson
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