Stock options can get you Elon Musk rich if your startup becomes the next Google. But you might be asking: How are stock options taxed?

Stock options can get you Elon Musk rich if your startup becomes the next Google. But you might be asking: How are stock options taxed?
Although stock options may not be as appealing as, say, ergonomic chairs and free office beer taps, they give employees the right to purchase company stock at a set price (usually a reduced price). The hope is that your startup becomes the next Tesla, and you can become Elon Musk-rich by pocketing the difference between your shares’ market value and the set price at which you purchased them.
In the same moment you learn you can buy the restaurant you had takeout from last night, the IRS will want a cut of your success as well. Therefore, it is critical to understand how stock options are taxed at the onset to avoid a hefty tax bill on the backend.
At the heart of it, stock options allow you to share in the upside of the company by purchasing your company’s stock at a reduced price. For the typical startup, stock options are a good way to recruit the geniuses who will take the company to unicorn status. After all, how else are you going to motivate people who may be forgoing bigger salaries to work at a startup and paying $5,000 a month to live in a closet in the Bay Area?
Once recruited, companies want the geniuses to stick around. This is where “vesting” comes into play, to specify when these options are available for you to purchase.
Stock options generally come in two flavors: statutory options and non-statutory options. The biggest difference between the options is how they are taxed.
Statutory stock options are generally not taxable when you’re exercising them (although the exercise may trigger AMT, which is a can o’ worms we won’t get into here).
Any gain you recognize on the sale of the stock (exercise price—sale price) is generally subject to the more preferential long-term capital gains rate (23.8% versus 37% at the highest individual bracket).
Non-statutory stock options are generally subject to higher taxes than statutory stock options. That’s because the options are potentially taxable on the date of exercise. The tax is applied on the difference between the FMV of the vested shares and the exercise price. Worse yet, this difference is usually taxed as ordinary income.
You will get hit second round of taxes when you decide to sell your exercised shares. Like statutory options, any gain you recognize on the sale of the shares is subject to short- or long-term capital gain rates, depending on whether you held the shares for more (or less) than a year.
Stock options are potentially a great way for employees to invest in a company early and accumulate long-term wealth. However, taxes on stock options can rain on your parade, so it’s important to understand the tax implications around options from the outset. Remember, a lower tax bill means more money in your pocket to devote to other ventures, like investing in the next r/WallStreetBets mania.