Canadian Startup People: you might want to exercise those options early

Canadian Startup People: you might want to exercise those options early

Short post here.

The finance nerd in me wanted to figure out how to optimize tax implications for my stock options. After researching, I found something I think would be valuable to most Canadian employees in any pre-IPO company where they hold stock options.

Basically, for private stock (i.e. pre-IPO stock) from a Canadian Controlled Private Corporation (CCPC, which your company probably is), this is the pro-tip and the reason you might want to exercise your vested options now:

Exercise your shares at least two years before exit, and you will pay no tax on any gain you make up to $813,600.

Here’s the reference from the CRA

A example to bring home the point:

It’s 2015, and you have 100,000 vested stock options with an exercise price of $0.10 at Awesome Co. In 2018, Awesome Co. IPOs at $5.00 (woohoo!). Here’s two scenarios:

Scenario #1: You didn’t read this article and didn’t buy your shares in 2015 and now you exercise and sell your options. Here’s the tax implications:

• $500,000 proceeds (100,000 * $5)— $10,000 cost (10000 x $0.10) = $490,000 capital gain
• You pay tax at your marginal rate for 50% of the capital gain
• Since you’re a baller, that’s almost 50% tax on $245,000 = $122,500 in tax
• You net a $367,500 profit ($500,000 proceeds— $10,000 cost — $122,500 tax)

Scenario #2: You exercised your shares like a boss

• $500,000 proceeds (10,000 * $5) — $10,000 cost (10000 x $0.10) = $490,000 capital gain
• The lifetime capital gains exemption (LCGE) hooks you up because you had the shares for 3 years, no tax baby!
• You buy a new tesla model S (which by 2018 can probably fly) with your extra $122,500

Some risks (yes there are some)

• Your company IPOs/sells earlier than in 2 years, in which case you didn’t really lose out but you end up spending $100,000 a year too early (lost interest from carry, for the finance nerds)
• If your company never succeeds and doesn’t sell, you will have wasted $10,000 (considering many early startup employees are in situations where their options were issued at pennies, this usually is worth the gamble for the potential tax savings IMO)
• Your stock eventually sells for LESS than your exercise price (in this scenario, less than $0.10).
• Note in both of the above, you can claim 50% of the loss as a tax deduction

You got some other tax tips for pre-IPO employees? Share them with me on Twitter

Disclaimer here: This is not financial advice. I googled this, came to the conclusions above, and am sharing with the hope of helping some people. But ultimately, if I am wrong, it’s your fault — use at your own risk.