Your Employer Went Public, Now What?

Employees who work for a company going public are often caught by surprise when this change impacts their own personal financial life. Going public can produce tax and legal issues that ought to be handled proactively.

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Frankly, it is events like these that make professional advice particularly useful—be it from lawyers, accountants, or financial advisors (like ourselves). Still, it is important for the employees of companies that go public to know the key questions for navigating these new waters. In these circumstances, planning ahead is especially helpful.

Understand when and how to exercise stock options, when to sell your company’s stock, the consequent tax implications (which can vary dramatically depending on the kind of stock options granted).  Then, consider how all of this should come together to fit your financial plan. It will not be a one-size-fits-all solution

When/How to Exercise Stock Options

Stock options are either vested or unvested. For those with unvested shares, your company’s IPO typically won’t change the vesting schedule—though it may entail immediately vesting options (sometimes, referred to as double-trigger vesting). For those with vested options, you’re going to need to figure out when to exercise those shares.

First, consider strike price vs the company’s internal valuation of your options. If the exercise price is greater than the fair market value, your options are “underwater.” Those options will remain unexercised until the fair market value of the stock is greater than the exercise price.

Next, consider timing. Exercising options prior to your company’s exit could provide tax savings. The holding period to qualify for Long-Term Capital gain treatment is selling shares that are two years past the date of grant and one year past the date of exercise.  However, exercising options could create a significant tax liability with no cash proceeds freed up to cover that liability. (After all, it is no guarantee the IPO occurs, or that your options do not experience a loss.)

When to Sell

After an IPO, there is usually a lock-up period wherein you cannot sell your company stock. Once that period is over, decide how much company stock want to sell. Consider the following elements while you decide:

First, as we advise all our clients after the wisdom of 1990 Nobel Prize winning economist, Harry Markowitz: diversify. Having a portfolio heavily weighted to one company keeps you tethered to the success and failure of that one company. What if the company faces financial hardship? Both your source of income and retirement prospects could be destabilized simultaneously.

Second, again, understand those tax implications. Selling company stock might push you into a higher tax bracket. The holding period of that company stock will affect the capital gains rate for taxation.

Lastly, it is worth noting that it is common to see volatile pricing after an IPO. To buffer this, long-term strategies for spreading out the harvesting of gains is helpful.

How to Prepare

If the IPO has not yet occurred, this will give you time to get your ducks in a row. If you currently work with financial professionals (accountants or financial advisors), tell them what is going on. If they can know a year before the IPO, they can help you take advantage of the discount between the 409a common valuation and the price at sale. This kind of foresight can help you evaluate when to exercise options for optimal tax impact, defer current-year deductions to the following year and offset the liquidity event, or even create/deploy a new financial vehicle (e.g. a trust) to hold and preserve the significant, forthcoming assets.

Potential Tax Complications

Ever hear of the Alternative Minimum Tax (AMT)? It makes tax filing more complex and often more costly. Exercising vested options of selling stock shares could generate AMT activity.

If you or your financial professionals find that in your circumstances of an IPO tax savings are priority, consider the possible strategies available. This is certainly no one-size-fits-all decision but as a few examples: gift your stock to family members; donate it to a charity prior to the IPO; perhaps, transfer the stock to a trust before the market value increases; or have your financial advisor create a donor-advised fund (DAF) to regulate your charitable giving with tax-advantaged transfers over the span of years.

After the IPO

Sale of options after the IPO could leave you with a substantially new amount of assets to manage. This is a good problem, but a problem nonetheless. As we have said a few times already, you want to appreciate the tax implications of this financial event. Too many times, employees are blindsided come tax season. Beside the tax implications, consider the proper investment vehicles to protect the value of these assets and carefully consider their purpose. This is when it is particularly important to have a comprehensive financial plan—a road map, so to speak—that connects with the broader desires and goals of your life. Believe it or not, it is a common thing for people to experience great anxiety over a sudden increase in wealth. Why? Because they do not have a purpose or a plan for their newfound wealth, and they are burdened by a question they did not have to ask before: “Now what?”

All this is to say, give your newly acquired assets a purpose. How they should be handled, invested, preserved, etc.

Frankly, this is where financial advisors shine, providing expertise, competence, and a peace of mind. If you think this is the kind of help you are looking for, schedule a call with an advisor from our team at Compass Ion Advisors. This is one of the ways we help people regularly.

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