Restricted Stock or Options-Which Are Better?
Hey Everyone I was recently speaking to a client and we were talking about restricted stock units and stock options and the question came up which one's better and my answer was it depends. So we're going to talk a little bit about the differences between the two so that if you have this question maybe it will help you with your situation. Umm.. I will just say as a disclaimer here this is what I see most traditionally in the valley could be different, ,all stock plans could be written a little bit differently and I’m going to talk sort of at a high level about a very simplistic situation there could be transaction cost and other things that might affect things. So, so for restricted units here's the situation where the individual has been issued ten shares. Usually when those are released into the client's account a certain percentage are going to be withheld for taxes. Because, now if your company is giving your ten shares for work that's basically income, right so you got to pay income tax, so these are withheld and sold and money goes to the IRS and the state too as well to pay for taxes. And then the net amount is going to be seven shares. This individual gets 7 shares, placed into their account and these shares are just like ordinary shares of common stock, right so think about like Microsoft or Amazon that you see trading on a normal exchange everyday. Ok? You can take these shares typically and sell them, if you do sell them you're going to pay tax again on the difference between what these are issued at and what you sold them at so if you held them for a year and they were worth a $1000, then you will pay $300 in capital-gains, long-term or short-term, depends on when sold them. OK? Let's switch gears to the options or the rights. so usually issued more shares in this case because they are not worth this much per share and you want to pay attention to a couple things. So the strike price, that is going to be the price that the shares were originally issued to you at or you have after the option to purchase them at this price And then the market price, ,like what are they actually trading at today. So if I was to sell them what would I get ? so you have it option in this case you have an option to buy 100 shares, this is what was issued to you at ninety five dollars a share you have an option to purchase the shares at $95 and you have an option to sell at $100 per share, well you always have an option to sell at the market price. And so the profit here would be $5 per share times 100 shares you’d get $500 dollars. And again this is income too as well so you will pay tax on the difference, between, your going to pay tax on just basically on the total amount you’re going to get. So which one is better right? Inherently when we think of options and margin and such a things we know that they're inherently riskier, right so the first thinking you want to do is talk to your Certified Financial Planning Professional or adviser and ask them do I have the capacity to take the kind of risk on. for myself, maybe you’re using it to pay for a house or you have to have some big expense coming up and you can't afford to lose this money, like for example if the stock drops in price to $95 or $90 a share. These aren’t going to be worth anything so you're not going to get any money. Where as you’ll still get some shares over here and they’ll be worth something. So find out if you have the capacity to take on this type of risk, yah the other thing really is where the price of the stock is going to go and because of these are more risky you're going to get higher returns if the stock does really well. RIght so, where's the stock price going to go, nobody really knows that, you know, we can kind get a sense where stock may go in the long run but in the short run nobody really knows especially with one stock no idea where that is going to go. So those are the kinds of questions you want to look at. The other thing you might want to look at is the vesting schedule, in this example these vest a 1/3 every single year, and these vested cliff so at the end of three years you’re going to get the amount. So it kind of depends, are you going to be staying around for a while or are you going to leave? If you are planning on leaving in a year take what you can get right? Even if it is more risky. I would always say just try to figure out how many shares you're going to get because then you can make this calculation but again,work with your CPA on the tax implications are going to be that and your CFP on whether this makes sense for your situation and always remember that investing in stock results in taking risk and risk of loss but hope this is helpful and if you have any questions let me know, take care.