I will never forget the call from the engineer who owed $340,000 in taxes on stock he couldn't sell.
It was 2022, right after the tech correction. He'd joined a hot startup in 2019, got a fat option grant at a $0.50 strike price. By late 2021, the company's last funding round valued those shares at $35 each. He exercised everything—200,000 options. On paper, he was worth $7 million.
Then he got his tax bill.
The Alternative Minimum Tax doesn't care that you can't sell the shares. It sees a $6.9 million "bargain element" and calculates what you owe on that phantom income. His bill: $340,000. Due in April. Cash.
The stock never went public. The company laid off 40% of staff in 2023. Today, those shares are probably worth $2 each—if they're worth anything at all.
He still owes the IRS.
That story isn't rare. I've seen versions of it dozens of times since I started advising tech workers on equity comp. The details change, but the pattern is always the same: smart people taking what they're given, not asking questions, and getting destroyed when the music stops.
This isn't going to be one of those explainer articles that defines every term and puts you to sleep. I'm going to tell you what actually matters, where the traps are, and how to not become a cautionary tale.
The Only Three Things You Need to Understand
Forget ISOs vs NSOs vs RSUs for a second. The core mechanics are simple:
1. Equity is deferred, uncertain compensation.
That $400k equity package in your offer? It's not $400k. It's a bet that the company will be worth something in 4 years, that you'll still be there to vest it, and that you'll navigate the tax situation correctly.
2. You get taxed on value you might never actually receive.
This is the killer. With RSUs, you owe income tax when they vest—whether you sell or hold. With ISOs, you might owe AMT when you exercise—even if you can't sell the shares. The IRS doesn't wait for your liquidity event.
3. Nobody at your company is going to explain this to you proactively.
HR doesn't understand it. Your manager doesn't understand it. The equity admin team will answer specific questions but won't volunteer anything. You're on your own.
The RSU Reality (Public Company Workers)
If you work at a public company—Google, Meta, Microsoft, Stripe post-IPO—you likely get RSUs. They're straightforward but still misunderstood.
How they actually work:
You're granted X shares that vest over 4 years (usually 25% after year 1, then monthly or quarterly). When shares vest, they become yours. At that moment, you owe ordinary income tax on the fair market value.
Your company withholds shares to cover taxes—typically at the federal supplemental rate of 22%.
Here's the trap: If you're in a higher bracket (which you probably are if you're getting significant RSUs), 22% isn't enough. You'll owe the difference at tax time. I've seen people get $20k surprise tax bills because their RSU vesting pushed them into the 35% bracket.
The fix: Set aside an extra 15% of each vesting event. Don't spend it. Wait until you file.
Real Talk on RSU Math
Let's say you have an offer with "$200k in RSUs over 4 years."
- Year 1 after cliff: $50k worth of stock vests
- You pay ~$17k in federal income tax (assume 35% effective)
- You pay ~$5k in state tax (assume 10%)
- You pay ~$7k in FICA (if under the Social Security cap)
Your $50k of equity becomes ~$21k in actual liquid value after taxes, assuming you sell immediately.
Still good money. But it's not $50k. It's never $50k.
The ISO Nightmare (Startup Workers)
ISOs (Incentive Stock Options) are where careers go to die—financially speaking.
The pitch sounds amazing: "You can buy stock at today's price. If the company grows, you keep the gain!" And there's favorable tax treatment if you hold the shares long enough.
The reality is AMT.
The AMT Trap Explained Simply
When you exercise ISOs, you don't owe regular income tax. Great.
But you might owe Alternative Minimum Tax. The AMT system looks at the "spread" between your strike price and the current fair market value. It treats that spread as income—even though you didn't sell anything, even though you can't sell anything.
The scenario that kills people:
- You have 100,000 ISOs at $1 strike price
- Company raises a round at $20/share valuation
- You exercise all your options, paying $100,000
- AMT sees $19 × 100,000 = $1.9M in "income"
- Your AMT bill: roughly $500,000
You owe half a million dollars. In cash. On shares you can't sell because the company is still private.
If the company IPOs at $50/share, you're a genius—you pay off the tax bill and pocket millions.
If the company folds, stays private forever, or goes out at a lower valuation, you've paid taxes on money that never existed.
How to Not Get Killed by AMT
Exercise early, when the spread is small. If you exercise when the 409A valuation is still $1.50 and your strike is $1.00, your AMT exposure is $0.50 × shares. Manageable.
Don't exercise everything at once. Spread your exercises across multiple tax years to stay under AMT thresholds.
Calculate before you file paperwork. Use an AMT calculator (or better, a CPA who specializes in tech equity). Know your number before you sign anything.
Have the cash to cover the tax. If you can't write a check for the potential AMT bill, you can't afford to exercise.
The Vesting Cliff Reality Check
"10,000 shares vesting over 4 years with a 1-year cliff."
Here's what that means in human terms:
You get nothing for 12 months. Zero. If you leave at month 11, you walk away with nothing. On your 1-year anniversary, 25% (2,500 shares) vest immediately. After that, shares vest monthly or quarterly until year 4.
Why this matters:
Companies know the cliff. Many layoffs happen suspiciously close to the cliff date. I've seen performance improvement plans that start at month 10 and conveniently conclude with termination at month 11.
(This is one reason I always tell people to negotiate a signing bonus that roughly equals what they'd lose if terminated before the cliff. It's insurance.)
What Your Startup Equity Is Actually Worth
Someone asks me at least once a month: "My startup gave me 50,000 shares. Am I going to be rich?"
My answer: "I don't know. What's 50,000 divided by the total shares outstanding? What's the current valuation? What are the liquidation preferences?"
They usually don't know any of those things.
Here's the reality check:
Most startup equity is worth nothing. Not because startups always fail—though most do—but because even in a "successful" exit, common shareholders (that's you) get paid last.
The investors who put in $50M during Series C have a "liquidation preference." They get their money back (often with a 1.5x or 2x multiple) before anyone else sees a dime. If the company sells for $100M and investors are owed $80M in preferences, you're splitting the remaining $20M across all common shareholders.
The math that disappoints:
- You own 50,000 shares out of 50,000,000 total = 0.1% of the company
- Company sells for $100M
- Investor preferences consume $80M
- $20M left for common shareholders
- Your 0.1% = $20,000 (before taxes)
Not nothing. But not life-changing either.
Before you negotiate equity at a startup, ask:
- What's my percentage ownership (fully diluted)?
- What are the liquidation preferences on existing preferred stock?
- What's a realistic exit scenario and timeline?
If they can't or won't answer, assume the worst.
The 83(b) Election (The One Good Hack)
If you join an early-stage startup and can exercise your options immediately (sometimes called "early exercise"), you can file an 83(b) election.
This lets you pay tax now, at the current (presumably low) valuation, instead of later when the company has grown.
Example:
- You early-exercise 100,000 shares at $0.01/share (cost: $1,000)
- Current FMV is $0.05/share
- You owe tax on $0.04 × 100,000 = $4,000 spread
- At 35% tax rate, that's $1,400 in taxes today
Now imagine the company IPOs at $50/share.
- Your gain: $49.99 per share, all taxed as long-term capital gains (20%)
- Without 83(b): That same gain is taxed as ordinary income at exercise (37%)
The difference on 100,000 shares at $50: roughly $850,000 in tax savings.
The catch: If the company fails, you paid taxes on worthless stock. No refund.
You have 30 days from exercising to file the 83(b). Miss the deadline and you lose the option forever. Mail it certified mail. Keep proof.
Quick Decision Framework
Should I exercise my options?
- Can you afford the cash outlay plus potential AMT?
- Do you genuinely believe the company will exit for more than the current valuation?
- Will you be able to hold for 1+ year after exercise (for favorable cap gains treatment)?
If any answer is "no," don't exercise.
Should I negotiate for more equity or more salary?
- Early-stage startup: Salary. You need stable income, and the equity is speculative.
- Late-stage or public company: Depends on your cash needs, but equity here is more likely to be worth something.
Should I sell RSUs immediately when they vest?
For most people: yes. Concentration risk is real. Would you take $50k cash and use it to buy your company's stock? Probably not. Same logic applies.
FAQ
My company is going public soon. What should I do?
Wait for the lockup period (usually 6 months post-IPO) to end before selling. Plan for the tax hit in the year you sell, not the year of IPO. Consider selling in tranches across multiple tax years if the amount is significant.
I'm leaving my company. What happens to my options?
Typically you have 90 days to exercise vested options or they expire. ISOs may convert to NSOs after departure. Check your option agreement—some companies now offer 10-year exercise windows for options post-departure.
Is it true companies time layoffs to steal equity?
"Steal" is a strong word. But yes, I've seen enough convenient cliff-date terminations to be suspicious. Document your performance, especially in months 10-11. Some employment lawyers have successfully argued these were pretextual layoffs.
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