Use restricted stock while your share price is nominal, then switch to stock options once you have a 409A valuation. Restricted stock is real shares bought up front at fair market value, which at formation is par value. Options are the right to buy shares later at today’s price, so recipients pay nothing up front.
Key takeaways
- Restricted stock suits founders and first hires while the share price is nominal.
- Options suit employees once a 409A sets a real value.
- The 409A, not the last round’s price, sets the price for both.
How do they compare?
| Restricted stock | Stock options | |
| What the holder gets | Shares now, subject to buyback until vested | The right to buy shares later |
| Pays | Fair market value at issuance | The exercise price, at exercise |
| Taxed | At issuance with an 83(b); otherwise as shares vest | At exercise (NSOs), or AMT at exercise (ISOs) |
| Stockholder and voting rights | Yes, from day one | Only after exercise |
| If they leave | The company can buy back unvested shares at the price paid | Unvested options are forfeited, and vested options must be exercised within a limited window |
| 83(b) election | Yes, within 30 days of the date the shares are issued | Only with early exercise |
| Best when | The share price is nominal | After the first 409A |
For more on departures, see What Happens to Startup Stock and Options When You Leave.
What’s the difference in practice?
Say a 409A values the common stock at $0.40 a share and you offer an early employee 50,000 shares. As restricted stock, they would pay $20,000 up front, or, if the company grants the shares for their work, they would have $20,000 of value to report as income. As options with a $0.40 exercise price, they pay nothing now. Once the options vest, they can buy the shares at $0.40 each whenever they choose to exercise, as long as the option hasn’t expired. That’s why options win once the price is real. At formation, when the same 50,000 shares at $0.00001 par would cost 50 cents, restricted stock is the simpler choice.
Why switch to options?
Once a 409A sets a real value, restricted stock costs the recipient real money or creates taxable income, while options let them pay nothing until they exercise. The 409A sets the price for both. The price investors paid in a round doesn’t, because that’s for preferred stock. See 409A Valuation.
Is there a middle ground?
Yes. Some companies let option holders exercise before their options vest. The shares they receive are unvested restricted stock, subject to the same buyback, and the holder can file an 83(b) election within 30 days of the date the shares are issued. It works best while the exercise price is low, because the holder pays the full exercise price up front. See Early Exercise Stock Options.
What legal steps are required?
Every grant needs board approval and a signed agreement. Equity compensation relies on a securities law exemption, usually Rule 701, and some states require a notice filing. Grants to employees, advisors and consultants, whether restricted stock or options, are usually made under the company’s equity incentive plan, the document most people mean when they say “option pool.” Founder stock bought at formation is typically issued outside the plan. See Employee Stock Option Plan.
See Restricted Stock, Stock Options and RSAs vs RSUs.
Related: Startup Equity Compensation · 83(b) Election · Stock Grant · Stock Option Grant
