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Yeah, this always existed but the magnitude is so much greater for so many more people now because companies are staying private longer.

I think it's healthy to just let vesting mean you get to take it with you, period, no catch. But it's worth noting this means there will be fewer options returned to companies in comparison to the last boom. Scott Kupor made this point although he framed it in a poor way.[1] He notes that it will in theory result in more dilution for employees that stay.

[1] https://a16z.com/2016/06/23/options-timing/

> I think it's healthy to just let vesting mean you get to take it with you, period, no catch.

This sounds great in concept but in practice acquiring the shares is the taxable event. So if a company just gives you shares, that's the taxable event. And since you get taxed on the delta between your strike price and the "fair market value" (even though there isn't one), it would happen on the company's schedule, not your own.

If you extended the exercise window for N years, that would mitigate most of it because you could wait to execute until it's liquid. Or not execute at all if it goes under.

* I've been through two IPOs in the last couple years.. good planning shielded me from having major tax liabilities.

>So if a company just gives you shares, that's the taxable event.

Unless they put them in your 401k, which is exactly what many (most?) companies do.

I have literally never heard of this...

Maybe not in a startup?

I have company stock given to me in my 401k.

https://www.fidelity.com/viewpoints/personal-finance/company...

>More than 15 million people own about $400 billion of company stock in Fidelity-administered workplace retirement plans alone

I've never heard of it either but have some reading ahead of me.

Though I've been at both companies pre-IPO so that is probably the first distinction. Post-IPO, the rules are quite a bit different so maybe it's an option now..

Mitt Romney did this I believe.

Isn't there a 401k limit per year on how much you can do this? Like 18k or something. I can see people abusing this and putting million into the 401k tax free

Yes, for 2017 the limit is 18k . But it’s worth noting for those that may not know how a 401k works (I’m not suggesting that’s you) - it’s not “tax free”, it’s just deferred until withdrawn (for a traditional 401k, there is also a Roth variant like IRAs).

Capital gains are tax free.

True, as of current only distributions from the account are taxed (and are taxed at current income rates, what happened to make the account grow doesn't come into play). Good clarification!

$18k is the limit for individual contribution. Employers have a separate contribution limit, I think around $55k. So they can freely give each employee $55k worth of cash or stock and that employee can freely contribute an additional $18k of their own money.

But, yes, as pointed out, you do pay taxes, but ONLY when withdraw from it, which you can do without a penalty when you reach a certain age. The capital gains are tax free. But I was saying distributing stock into a 401k is not a taxable event, not that you'd never pay taxes.

It's not abusive to fill up your 401k, that's what it is there for.

> If you extended the exercise window for N years...

We agree. That's all I meant by "you get to take it [your vested options] with you," as opposed to turning them in on the way out the door if you can't pay the strike price + AMT.

"Both former employees took out loans from family members to make the payments"

This isn't the point of the story, but it may be a good bubble-check for some to hear that the idea of having family members in a position to lend this kind of money is mind-boggling to this reader of working-class roots.

They may not have the money but they may have equity in their homes to borrow.

(I still wouldn't do it but it's possible.)

Yeah this just looks like poor/risky financial calculus on the part of the former employees.

Also I always incorrectly think that these sorts of option traps are public knowledge, but then every now and then I'm prove wrong by even very smart people I personally know, not being aware of these traps.

Not sure how we fix this situation tbh. For starters "don't join a company without an extended option exercise period" is a decent first order heuristic, but not everyone has that luxury.

I'd say "risky" rather than "poor". They probably knew it was "risky" in the sense that they were extending themselves but perhaps underestimated the tax consequences or risk of the company's fortunes turning.

Many people just stick it out with their employer hoping that their options become liquid; in some ways that can also be risky/poor decision making. Maybe it's an unhealthy work environment or you've stopped learning/advancing in your career, or there's a real opportunity cost where you're foregoing a higher salary.

Maybe these people left because it was the better life decision (or maybe they were terminated), but regardless, most of us would think long and hard about giving up, say, millions of dollars in potential value. Hell, even at $300k in debt it might be a good or worthwhile gamble.

It's easy to dismiss this all as poor decision making, but there are real risk/reward calculations to be done here, and "walk away from millions of dollars" is not always the smart answer, even if it kills in the comment threads.

if you are optimizing for regret minimization I'd probably argue that it's way less regrettable to end up in $200-300k in debt due to a crazy, unexpected snafu occurring (like an economic crash or company crash) than have to know for the rest of your life you could have been a millionaire if you just had bet on the (at the time) reasonably high probability event of eventual liquidity, by exercising options that you worked hard to earn. especially because in the crash scenario, you are surrounded by commiserating peers who also got burned, but in the upside scenario you missed out on, all of your peers except you are living the high life shaking their heads at your "foolish" (in hindsight) risk aversion.

edit: not sure why the downvotes. if you are interested in a treatment of peer-based utility functions that affect risk premia, see https://www.amazon.com/Missing-Risk-Premium-Volatility-Inves... -- in other words, risk may not be best measured as volatility but instead as the expected relative wealth gain/loss to your market peers. for private employee equity, those peers are other optionholders.

Well, a "company crash" is not a wild, unexpected snafu for a startup. It depends on the "facts," such as you know them, of course. But a $200-$300K debt is, bankruptcy option notwithstanding, a major life-altering event if you don't hit your payday. If it's a legitimately high probability payout, it may be a justified risk. But, for most people in that scenario, my guess is that they're wildly overestimating the upside potential.

I was following you for a while...but can you explain how this is different than taking out a home equity loan, going $200-300k in debt, and buying lotto tickets for a chance to become a millionare? Aside from the fact that you wouldn't know whether you would or would not have won that lotto.

The chance of winning the lotto is much much smaller than the chance of Uber surviving to an IPO with value at/above the fair market value that triggered $300k in AMT.

Yep I was referring specifically to the idea of Uber options converting to stock worth some reasonable price. The idea of Uber completely imploding to $0 seems rather far fetched, but it depends on strike price, etc.

There have been cases of lotteries where the expected value of a ticket, though low, was still sometimes positive. And there have absolutely been cases of people who figured that out and organized investors to buy large quantities of tickets for the return.

Plus, in the event you have $300k of debt and no assets, you can file for bankruptcy.

Isn’t this how we ended up with people like Donald Trump? Risky behavior pawned off on everyone else?

In this case, the bank that gives you a loan is the one taking the risk. Theoretically. The trouble is that the government doesn't like to let banks fail.

Trump is special. The fact that Deutsche Bank was still willing to lend so much, despite his repeated bankruptcies is very interesting. If I recall correctly, he was involved in a lawsuit with one department at Deutsche over missed payments while a different department was signing over $700 million.

its not really moral, but its incentived behavior

> They probably knew it was "risky" in the sense that they were extending themselves but perhaps underestimated the tax consequences or risk of the company's fortunes turning

"[over-]extending themselves" - risky

"underestimated the tax consequences" - poor; this is a straightforward computation assuming you exercise your rights to get the latest 409a valuation after exercising a single share

Risky? Yes.

Poor? That's yet to be seen.

It seems like this is a kind of a loophole in the SEC's accredited investor rules. These people aren't accredited investors, yet a private company like Uber is able to take an investment from them by giving them options beforehand.

Perhaps private companies should be forbidden from allowing the exercise of options for non-liquid stock by non-accredited investors, and then also forbidden from requiring un-exercised options that they have granted to non-accredited investors to be forfeited at the end of an exercise window so as to not be ludicrously unfair to the people holding unexercisable options.