Equity and Stock Options at Work: How to Actually Understand What You're Being Offered

Equity compensation is one of the most misunderstood components of a job offer. For some employees, it represents their most significant financial opportunity. For others, it turns out to be worth close to nothing. The difference often comes down to understanding what you were actually given.

If you work at a startup or a public tech company, or you are evaluating an offer that includes equity, this post covers what the different types mean, how vesting works, what the tax implications are, and the specific questions you should ask before accepting.

The Two Main Types of Equity

Restricted Stock Units (RSUs)

RSUs are the most common form of equity compensation at large, established public companies. An RSU is a promise from your employer to give you shares of company stock after certain conditions are met, almost always a vesting schedule tied to your continued employment.

When RSUs vest, you receive actual shares (or their cash equivalent). At that moment, the value of those shares is taxed as ordinary income, just like your salary. You owe taxes even if you do not sell the shares.

Key facts about RSUs:

• You do not pay for them. They are granted to you.
• They have real value from day one if the company is public (current stock price x number of units).
• At a public company, vested RSUs are relatively straightforward to value and liquidate.
• At a private company, RSUs may have no liquidity until an IPO or acquisition.

Stock Options

Stock options give you the right to purchase company shares at a specific price, called the exercise price or strike price, at a future time. You do not automatically get the shares. You have to decide whether to exercise your option to buy them.

Options come in two main varieties with meaningfully different tax treatment:

Incentive Stock Options (ISOs): Available only to employees, not contractors. If you hold the shares long enough after exercising (at least two years from grant, one year from exercise), gains are taxed at long-term capital gains rates rather than ordinary income rates. This can be significantly more favorable, but ISOs can also trigger the Alternative Minimum Tax (AMT), which is a complication worth understanding with a tax advisor before exercising large amounts.

Non-Qualified Stock Options (NSOs or NQSOs): Can be granted to employees, contractors, and board members. When you exercise NSOs, the difference between the strike price and the fair market value (called the spread) is taxed as ordinary income immediately, regardless of whether you sell the shares. NSOs are simpler but less tax-favorable than ISOs in most scenarios.

How Vesting Works

Vesting is the schedule by which you earn the equity you were granted. Standard vesting at most companies follows a four-year schedule with a one-year cliff.

What that means:

• Nothing vests until you have been at the company for 12 months (the cliff)
• After 12 months, 25% of your total grant vests at once
• The remaining 75% vests monthly or quarterly over the following three years

Example: You are granted 10,000 RSUs at a startup. If you leave at month 11, you vest nothing. If you leave at month 13, you vest 2,500 RSUs (25%) plus roughly one month of post-cliff vesting. If you stay four years, you vest the full 10,000.

This structure is specifically designed to retain employees. The one-year cliff creates a meaningful disincentive to leave in year one. Employees approaching their cliff date should factor the cliff value into any departure timing decision.

Understanding Strike Price and 409A Valuation

For employees at private startup companies, the exercise price (strike price) of your options is set at the fair market value of the company's common stock at the time of grant. This value is determined by an independent valuation called a 409A valuation.

The 409A valuation is almost always substantially below the preferred share price paid by investors. A company valued at $200 million by investors might have a 409A common stock valuation of $80 million, giving you a strike price based on the lower value.

Your options are "in the money" when the current 409A value exceeds your strike price. They are "underwater" when the current value is below it. Underwater options have no economic value; you would be paying more to buy the shares than they are worth.

Critical questions to ask:

• What is the current 409A valuation per share?
• What is my strike price per share?
• What was the most recent preferred share price investors paid?
• How many total shares are outstanding (fully diluted)?

The last question matters because your percentage ownership is what determines your slice of any future exit. A grant of 50,000 options sounds impressive. If the company has 50 million fully diluted shares outstanding, you own 0.1%. Know your actual percentage.

The 90-Day Exercise Window Problem

Most stock option agreements give you 90 days after leaving the company to exercise your vested options. After that, they expire worthless.

For employees at high-growth private startups, exercising options on departure is expensive: you must pay the strike price for each share, plus potentially a large tax bill on the spread. Many employees simply let options expire rather than pay to exercise them.

Some companies have extended this window to 5 or 10 years, recognizing that the 90-day window disproportionately affects non-wealthy employees. It is worth asking about exercise window policy before joining, particularly for early-stage companies.

Tax Treatment Summary

Evaluating Startup Equity Realistically

According to 2025 Secfi data, only about 1 in 10 VC-backed startups produces a meaningful return for common shareholders. Many startups that technically "exit" do so at prices that return money to preferred shareholders but leave common stockholders with little or nothing after preference stacks are applied.

What a realistic valuation framework looks like:

Start with the current 409A valuation and your option count. Then apply a probability-weighted scenario:

• 70% to 80% chance: the company fails or exits at a low price, your options are worth little or nothing
• 15% to 25% chance: modest exit, you receive some return
• 5% to 10% chance: strong exit, meaningful return

For most employees, especially at early-stage companies, startup equity should be treated as a lottery ticket, not a retirement plan. Include it in your financial planning only with very conservative probability-weighting.

For public company RSUs, the calculation is more straightforward: current share price x vested shares equals current value. Factor in the tax liability (ordinary income in the year of vesting) and plan accordingly.

Real-World Examples

Example: Keiko, 31, software engineer at a Series B startup

Situation: Keiko received an offer with 40,000 options at a $2.50 strike price. The latest 409A valuation was $4.00/share. The company had 40 million fully diluted shares outstanding.

What she calculated: Her percentage ownership was 0.1%. At the 409A value, her options were worth $60,000 in spread. At a 5x outcome ($20/share), they would be worth $700,000 before taxes. But she had to factor in dilution from future funding rounds and the probability of that outcome.

Result: She treated the equity as upside, not guaranteed compensation. She negotiated the base salary to a level she was comfortable with regardless of equity outcome, then treated the options as potential bonus.

Example: Dmitri, 38, marketing director at a public company

Situation: Dmitri received 2,000 RSUs vesting over four years at a company with a $45 stock price. He did not understand the tax implications.

What he learned: At his one-year cliff, 500 RSUs vested. At $45/share, that was $22,500 of ordinary income added to his tax return. He owed approximately $7,200 in additional federal and state taxes. He had not set aside the money.

Result: He set up a dedicated savings account going forward and began making estimated quarterly tax payments in the year of vesting. He also met with a CPA to understand the tax strategy for future vesting events.

Questions to Ask Before Accepting an Equity Offer

1. What type of equity is this: RSUs, ISOs, or NSOs?
2. What is the vesting schedule and cliff period?
3. What is the current strike price (for options)?
4. What is the current 409A valuation per share?
5. What is the fully diluted share count?
6. What was the most recent preferred share price paid by investors?
7. What is the exercise window if I leave the company?
8. Has the company had any 409A re-pricing or down rounds?

The Bottom Line

Equity compensation is genuinely complex, and the complexity is intentional, in the sense that most standard agreements favor the employer when employees do not understand what they are signing.

Understanding vesting schedules, option types, strike prices, and tax treatment is not optional if equity represents a meaningful portion of your compensation. For public company RSUs, the math is tractable. For startup options, apply healthy skepticism and do not anchor your financial planning on them materializing.

For the broader context of evaluating a full compensation package, the post on how to evaluate a job offer beyond salary covers benefits, match structures, and the full picture.

This post is for informational purposes only and does not constitute financial or tax advice. Consult a tax professional regarding the specific tax implications of your equity compensation.