What happens if you leave before equity vests? Guide to employees

As you embark on a new journey with a new organisation, you must settle all your compensations with your prior employer. Cash compensation is easy to settle since the only three inputs are your salary, the notice period terms and the days worked in the last month of employment.

However, leaving before equity vests can complicate recovering your stock-based compensation. You must check if your company offers an early exercise facility and a net exercise option. You must also see if you can get a loan for exercising stock options, and if your next employer can offer a sign-on bonus to exercise your options.

Furthermore, you must also check your company’s stock option policy for clawback clauses and the conditions of the post-termination exercise period (PTEP).

What happens to vested stock options when you leave?

Before we discuss what happens to unvested stock options when you leave, let us first understand what happens to vested ones and stocks you received by exercising stock options. For these two assets, you must take note of the following clauses in your company’s stock option policy.

Clawback clauses

Clawback clauses in general enable companies to recover compensations under certain conditions. Clawback clauses can apply to signing bonuses, advance payments, and even stock options as well as stocks received from exercising stock options.

If your company activates the clawback clause, you will not be compensated; you must forfeit. You must note that clawback clauses are not standard. Each company may have different provisions built in through clawback clauses. Also, clawback clauses are not always absolute, i.e. they may not always apply to the entire compensation.

Only in severe cases like fraud or misconduct will companies be able to recover entire stock-based compensation.

Post-termination exercise period (PTEP) extension

Once your stock options have vested, you must exercise them to get any sort of benefit. If you hold vested ones when you leave, you must exercise them within a certain window called the post-termination exercise period (PTEP). Typically, this window will be short. Your company may allow you to exercise vested stock options within 30 to 90 days after you leave.

In some cases, employers may allow you to extend the PTEP. If you exercise it more than 90 days after leaving, it will be treated as an NSO even if they were offered as incentive ISOs.

Since the tax treatment of NSOs and ISOs are different, you must take note of the 90-day condition.

What happens to unvested stock options when you leave?

When you are leaving before equity vests, the following situations can unfold:

Early exercise provisions

Equity vesting typically follows a gradual vesting schedule or a cliff vesting process. However, some companies may allow employees to exercise their stock options. Early exercise is a special case of equity vesting for employees. Here, employees are allowed to purchase their unvested stock options.

Typically, employees exercise early so that they qualify for long-term capital gains tax treatment earlier than normal. Another benefit is you can start participating early in any potential stock price increases and income distributions like dividends.

However, you may not have the necessary funds to early exercise. Some of the solutions for such a situation are as follows:

• Net exercise – In some companies, you can receive the difference between the exercise price and the fair market value (FMV). This practice is known as net exercise. You can think of this as a cashless settlement of two transactions – you paying for exercising stock options and your company paying the FMV for your stocks.
• Sign-on bonus – If you are joining a new company, you can ask them for a sign-on bonus. In negotiations, you could say that the loss from leaving a company before equity vests is making the job switch unthinkable.
• Stock option lending – You can approach a lender for a loan to purchase your stock option. If your company is going to repurchase your stocks after you exercise them, this will only be a short-term liability for you. If not, then you will have to hold out until a liquidity event like an initial public offering (IPO) or mergers and acquisitions (M&A). If you are taking this route, you must weigh the interest cost and other conditions against the possible benefits.

Repurchase of unvested stock options

Some companies may repurchase if you are leaving before equity vests. Such practices are common with companies that do not make their employees forfeit. They will want to buy back unvested options to return them to the employee stock pool.

The repurchase price may be the ongoing fair market value (FMV) or the original exercise price. In some cases, the repurchase price may be set as per negotiations between the company and the employee. Here’s a quick rundown of exercise prices and FMVs.

• Exercise price – This is the price you would have to pay to exercise the stock option on vesting.
• Fair market value (FMV) – The FMV is a price acceptable in a market where all key details about a company are known and understood.

Forfeiture of stock options

Finally, we will cover the most unfortunate outcome of leaving before equity vests. Many companies make their employees forfeit their unvested stock options. Companies may apply this policy to deter employees from leaving.

Understanding your equity agreement

You should review your company’s stock option policy for the following clauses:

Vesting schedule and conditions

Typically, equity vesting for employees occurs when you satisfy the vesting schedule and certain conditions. Vesting schedules are either gradual or cliff. In gradual vesting, a percentage of the stock options get vested every year.

Other conditions for vesting are either performance-related or market-related. Performance-related conditions require you to achieve a certain target while market-related conditions require your company’s share price to reach a certain level.

When you are planning your exit, you must examine whether the options get vested only if all vesting conditions including the schedule are met, or if a part of them get vested as conditions are met. If the latter is true, you should check which performance-related conditions are achievable by the time you make your exit.

Early termination clauses

Early termination clauses may outline how your vested and unvested stock options will be treated when you leave. They will outline the post-termination exercise period (PTEP), repurchase conditions, and forfeiture conditions.

Examining this clause will help you assess the impact on your stock compensations when you leave. You must understand the monetary impact as well as the tax implications.

At Eqvista, we advise employees on equity and taxation matters to help them stay tax-compliant and maximize their gains.

Acceleration clauses

In some cases, an employee must leave before equity vests for reasons outside their control. For instance, when companies go through mergers and acquisitions (M&As), some employees must be let go to avoid duplication of work. Similarly, employees may also be let go in the event of outsourcing. In such special cases, some companies allow for acceleration of vesting.

Optimise stock options with Eqvista for smart exits!

In this article, we deep-dived into the complexities of leaving before equity vests. Clawback clauses can make you forfeit even the vested stock options and the proceeds from the sale of such stocks.

You must exercise your vested stock options before the post-termination exercise period (PTEP) ends. You can ask your employer to extend this period but you must note that any option executed more than 90 days after you leave will be taxed as a non-qualified stock option (NSO).

Some companies allow you early exercise stock options but if you do not have the necessary funds, you can go for net exercise, sign-on bonuses from your next employer, and stock option lending.

If your company repurchases your unvested stock options, it will be at a negotiated price, the exercise price, or the ongoing fair market value (FMV).

To simulate the impact of leaving a company before equity vests, you should take note of the vesting conditions, early termination clauses, and acceleration clauses.

If you are leaving a company before equity vests, consider reaching out to Eqvista. Our equity and tax advisory team can provide personalized guidance to help you make informed decisions that can potentially save you from costly mistakes. Contact us to know more!