May 7, 2021
Option grants (ISO, NSO) or RSUs are a promise from your employer that you will receive stock in a company at a discount to what investors are paying. Before you can exercise the option grants or convert RSUs, you need to earn them by meeting requirements set out by your employer. These requirements are referred to as a vesting schedule.
Vesting schedules are generally time based, but some companies have a "double trigger": 1.) work for the company for a specific period of time 2.) IPO.
Here’s a breakdown of what vesting schedules are and how they work:
Vesting is the process of earning your securities. As you meet the requirements for earning your shares over time, you are "vesting".
Vesting schedules are common with retirement accounts, pension plans, RSUs, and other stock options. The general idea is that the longer you work, the more you stand to gain from your tenure. Companies use vesting schedules as an incentive to get employees to remain with the company for longer - retention. In addition, it also provides them protection from giving incentives to bad hires.
Vesting schedules are developed on a case-by-case basis, depending on the company and type of security, but there are some standard vesting schedules that companies prefer. For example, many startups prefer a 1 year cliff /48 month vesting schedule. This means that the employee must stay for 1 year before they vest any of their securities. Once they've worked for the company for more than 1 year they can purchase the shares that have vested and the remaining options vest monthly for the next 36 months after meeting the 1 year cliff requirements.
Understanding the details of your vesting schedule is a critical component of financial planning. It can also help you avoid forfeiture of your shares by not meeting requirements if you get fired or leave before you vest your shares. When in doubt, contact YearEnd and we can help.