Options & Option Plans
What are stock options? Why should a startup adopt an option plan?
Stock options represent the right to purchase common stock at a set price. That price, called the exercise price or strike price, typically corresponds to the value of the stock granted at the time of grant. Unlike common stock, options don’t require an up-front investment from the grantee. They traditionally accrue to the employee over a period of time (usually 48 months) through a vesting schedule, so the employee’s contributions match their equity reward. Once options have vested, the grantee can exercise those purchase rights to buy stock at the exercise price—which will be much lower than the price of shares at the time of exercise if the startup has been successful.
How many options should a startup allocate to the pool?
Because option plans require allocation of a specific number of shares and count towards the company’s fully-diluted ownership, they effectively dilute any existing equity-holder’s stake. Since founders typically want to preserve as much of their own ownership as possible during fundraising, the dilution effect means that founders should seek to keep their option pool as small as they can without hurting their ability to recruit—and they should be able to justify this plan to their investors.
How can I adopt an option plan through Gust Launch?
Gust Launch Raise includes both 409A valuations and Equity Incentive Plan adoption. To be eligible to use Gust Launch Raise, you must have incorporated through Gust Launch and not have created an option plan off-platform. You must also have issued common stock through Gust Launch.
What are 409A valuations and how does Gust Launch provide them?
Because the United States tax code considers options to be “deferred compensation,” their value is subject to a tax code section called IRC 409A, which requires private companies to justify the exercise price of the options by defining their companies’ fair market value with a 409A report. To comply with this code section, companies must create a 409A report each year, as well as when certain events (called “material events”) cause the value of the company to change substantially. Gust Launch provides annual 409A reports as part of the Gust Launch Raise package.
What's the difference between NSOs and ISOs?
Founders generally grant two kinds of equity from their Equity Incentive Plan: Incentive Stock Options (ISOs) and Non-qualified Stock Options (NSOs). The two differ in several ways, but the upshot is that ISOs (which are only available to employees) do not create “income” at exercise in the eyes of the IRS, meaning that they do not result in additional taxes for the employee until the employee sells the shares, and startup employees would therefore generally prefer to receive ISOs rather than NSOs. The company can issue either type of equity grant from the same option pool, as long as the Equity Incentive Plan authorizes both (which Gust Launch EIPs do).