Non Qualified Stock Options (NSOs) are looked down upon because there is no tax benefit when compared to Incentive Stock Options (ISOs). However, there are many benefits of NSOs, and you can use these kinds of options to your advantage in a sound financial strategy.
The Benefits of NSOs
Here are three important NSO advantages:
- No Alternative Minimum Tax (AMT)
- Early exercise
- No $100k annual limit
No AMT to Worry About
With NSOs, you will never have to worry about paying the AMT. On the other hand, with ISOs, the AMT is always a concern. The AMT can get very tricky and be a headache.
There are no surprises on April 15th with NSOs. You know the tax rate ahead of time, and you pay it. It’s simple and straightforward.
Early Exercise of Options
Perhaps you work at a startup and you have the opportunity to exercise your options early, in order to take more ownership in the business. If you have the choice between ISOs and NSOs for early exercise, what should you do?
An early exercise of NSOs is the better choice. You don’t have any holding period requirements for advantageous tax purposes with NSOs, like you do with ISOs (12 months after stock purchase and 24 months after ISO grant). So you can exercise your NSOs, take ownership of the shares and be on your way.
No Annual $100K Limit
Finally, there is no $100K annual calendar limit with NSOs, like there is with ISOs.
Let’s say you have 100,000 ISOs and the fair market value of the shares is $4.00 per share. The total value of the ISOs is worth $400,000.
But only $100,000 of the options will qualify as ISOs in a calendar year. If you choose to exercise the entire amount of options, the remaining $300,000 of options will be NSOs. Unfortunately, you only get the potential tax benefit with ISOs on the $100,000.
When you are granted more options and when the fair market value exceeds the $100,000 limit, the options will overflow to NSOs.
NSOs Can Be Helpful
Although NSOs are looked down upon for their disadvantaged tax rate, you can use them to your advantage in many other ways. Want to talk about putting a strategy together, let’s chat!