Employees of a company that is ready to hit the IPO market should understand some key aspects regarding their Employee Stock Option Plans (ESOPs). Consider when to exercise or sell ESOPs, tax matters, and how to leverage your ESOPs for financial security. Such understanding will help you to know the impacts on your financial fronts before and after the company’s IPO issue.
What are Employee Stock Option Plans?
Employee Stock Option Plans (ESOPs) are the employee benefit plans issued by an unlisted company under the Companies Act, 2013, and Companies (Share Capital and Debentures) Rules, 2014. All companies other than the listed ones can offer shares to their permanent employees at a discounted rate through ESOPs. It allows employees to buy company shares at a lower price than the market on a future date. Employees are free to forward these shares’ ownership to other individuals at a higher price to make profits. A company with an upcoming IPO may issue these plans with a time limit to hold or sell. Thus, these are plans to encourage employee ownership in the company
Financial Planning Before and After IPO
Financial planning for employees with ESOPs includes how to maximise profits and minimise liabilities and where to reinvest the funds released. Employees should consider the following aspects to buy or selling ESOP stocks for proper financial planning:
When and how to exercise ESOP
ESOPs may be vested or unvested. Vest refers to the right to apply for company shares.
For vested options, the IPO may change the vesting schedule. There can be 12 or more months between the grant and vesting. Grant means the period when ESOP is issued to the employees. Exercise means the period when the employees can buy shares. There is a specified lock-in period for the shares issued after exercising the option. If these are unvested ESOPs, the vesting schedule does not get affected by the IPO.
- Strike Price vs Exercise Price: If the exercise price of the share is less than its fair market value, exercising is not a viable move.
- Timing: Exercising ESOPs early, before the IPO filing, allows you to benefit from the lower rate of long-term capital gains taxes than those of short-term. It provides significant tax savings.
Many brokers offer unique ESOP trading services to help investors, just like intraday trading or delivery trades.
When to sell ESOP
Generally, there is a lockup period of 6 months after an IPO, during which employees cannot sell their shares. After six months, employees need to evaluate many factors to decide when and how many shares to sell. Investing in a company that also provides your salary is not a good idea. If the company goes through financial trouble, you could have losses in both ways – earnings and investments.
Important factors to be considered before selling ESOP shares are:
- Timing: Stock prices are often volatile after an IPO issue. It is best to develop a long-term strategy to maximise profits and minimise the risk of a declined share price.
- Tax implications: The sale of company shares could fall you into a higher tax bracket. The time you have held the shares will affect your taxes – the long-term or short-term capital gains.
When to Start Financial Planning
Selling ESOPs after an IPO can provide you with substantial assets with tax liabilities to manage. Ideally, you would start planning more than one year before an IPO issue. However, many times an IPO issue can be delayed. If one year is not possible, planning for a few months before will benefit you in several ways in tax management.
You need to evaluate the timing of more favourable stock exercising from a tax perspective. Also, you can defer current year tax deductions to the following year.
This way, employees can ensure they are prepared for their company’s IPO with proper planning.
Leave a Reply