The issuance of an award, such as a stock option, to key employees under a stock plan. A stock option grants the employee the right to purchase a certain number of shares of the company's stock at a predetermined price. This price is called the grant price. There is usually a waiting period before an employee can exercise these stock options.


A grant is offered to employees only after they have worked at the company for a set period of time. Purchasing a stock option is also known as exercising. For more details on stock option grants and tips on determining the best time to exercise, read CNN Money's "Employee stock option plans."

Why Purchase Stock Option Grants?

From the employer's standpoint, the idea behind stock option grants is to give employees the incentive to align their interests with that of the stockholders. In the past, however, some stock option grants have been set at such low levels that executives ended up enriching themselves, not the shareholders.

From the employee's standpoint, a stock option grant is an opportunity to purchase stock in the company he or she works for at a lower price. Typically, the grant price is set as the market price at the time the grant is offered. It is advisable for an employee to purchase a stock option if the market price of the stock goes up in value: the grant price is still the same, so the employee is purchasing a stock at a lower price than market value.

Qualified vs. Non-Qualified Stock Option Grants

Non-qualified stock option (NSO) grants . They can be transferred to a child or a charity, depending on the specific company's policies. Non-qualified stock option grants are tax deductible by the company that provides them. Since the grant is provided at a specific price, which is usually lower than the market value for the company's stock, employees who choose to take advantage of this opportunity pay income tax on the difference between these two prices upon purchase. It's important to note that employees are not subject to taxes when the option becomes available to them; rather, they only pay taxes when they purchase a stock option.

For a breakdown on exactly what determines a non-qualified stock option and how it is taxed, read Non-Qualified Stock Options.

A qualified stock option grant, also known as an incentive stock option (ISO), is eligible for a special tax treatment: you don't have to pay income tax when you purchase an option, and you instead pay capital gains tax when you sell the option, or taxes on the profits made from the stock option. However, the grant might not be provided at a lower price than market value, as non-qualified options are. Also, this type of grant is riskier, as the employee must hold on to the option for a longer period of time to qualify for this tax treatment. This type of grant is usually reserved for the higher level employees, and the company cannot write off the grant as a tax deduction. ISOs cannot be transferred to another person or entity, unless through a will.

To learn more about how ISOs work and how they are taxed, read Introduction To Incentive Stock Options.

For a guide on both types of stock options and how to handle each, read The Best Strategies to Manage Your Stock Options.

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