RSUs vs. Stock Options: A Guide to 4 Key Differences

Restricted share units (RSUs) and stock options are both equity-based compensation tools that allow employees to share in the ownership of the company they work for. However, there are some key differences between the two that can make one more attractive than the other depending on your individual circumstances.

1. Vesting

RSUs vest over time, which means that they gradually become yours over a set period of time. This period can be anywhere from a few months to several years. Once RSUs vest, they become shares of company stock that you can sell or hold.

Stock options, on the other hand, do not vest until you exercise them. Exercising an option means buying the underlying shares of stock at a set price, known as the strike price. You can only exercise an option if the stock price is above the strike price.

2. Taxation

RSUs are taxed as ordinary income when they vest. This means that you will pay taxes on the fair market value of the shares at the time of vesting.

Stock options are taxed differently depending on how you exercise them. If you exercise your options and hold the shares for at least one year, you will pay capital gains taxes on the difference between the strike price and the sale price. If you sell the shares within one year of exercising your options, you will pay ordinary income taxes on the difference between the strike price and the sale price.

3. Risk

RSUs are a less risky investment than stock options. This is because RSUs have a guaranteed value, whereas the value of stock options can fluctuate depending on the stock price.

However, RSUs can also be less rewarding than stock options. This is because the value of RSUs is capped at the strike price, whereas the value of stock options can increase indefinitely if the stock price rises.

4. Flexibility

RSUs are more flexible than stock options. This is because you can sell RSUs at any time after they vest. Stock options, on the other hand, can only be exercised during a specific window of time.

Which is Right for You?

Whether RSUs or stock options are right for you depends on your individual circumstances. If you are looking for a less risky investment with a guaranteed value, RSUs may be a better choice. If you are willing to take on more risk in exchange for the potential for a higher reward, stock options may be a better choice.

Common Mistakes to Avoid

When it comes to RSUs and stock options, there are a few common mistakes that you should avoid. These include:

• Not understanding the vesting schedule. Make sure you understand how your RSUs or stock options vest over time. This will help you avoid any surprises down the road.
• Exercising your options too early. If you exercise your stock options too early, you could end up paying more taxes than you need to. It is generally best to wait until the stock price has risen significantly before exercising your options.
• Selling your shares too soon. If you sell your RSUs or stock options too soon, you could miss out on the potential for a higher return. It is generally best to hold your shares for at least a few years to allow the stock price to appreciate.

FAQs

• What is the difference between RSUs and stock options?
  • RSUs are shares of company stock that vest over time, while stock options are contracts that give you the right to buy shares of company stock at a set price.
• Which is better, RSUs or stock options?
  • It depends on your individual circumstances. RSUs are less risky but also less rewarding, while stock options are more risky but also have the potential for a higher return.
• How are RSUs taxed?
  • RSUs are taxed as ordinary income when they vest.
• How are stock options taxed?
  • Stock options are taxed differently depending on how you exercise them. If you exercise your options and hold the shares for at least one year, you will pay capital gains taxes on the difference between the strike price and the sale price. If you sell the shares within one year of exercising your options, you will pay ordinary income taxes on the difference between the strike price and the sale price.
• When should I exercise my stock options?
  • It generally depends on several factors, such as the current stock price, the expected future stock price, and your personal financial situation. It's recommended to consult with a financial advisor for personalized advice.
• When should I sell my RSUs or stock options?
  • It generally depends on several factors, such as your financial goals, risk tolerance, and the current market conditions. It's recommended to consult with a financial advisor for personalized advice.