A Framework For Thinking About Exercising Your Stock Options

Compound is a full-stack financial management platform for technology founders and employees. We serve 1,000s of clients from companies like Stripe, Figma and Coinbase. We have a tool to help you model your illiquid company equity available here. 

Investing your time and money

Careers require investments of time. Tech careers can also require investments of money. You invest your time by choosing where to work. You invest your money by choosing whether or not to purchase shares in the startup of your company through a motion known as exercising your stock options. 

This decision is part investment strategy, part risk management. It’s about positioning yourself for financial upside while ensuring you’re not overexposed to a single company—especially the one that pays your salary.

Venture capital firms solve this by diversifying. They invest in dozens of startups, knowing most will fail, but a handful will generate outsized returns. You don’t have that luxury. If you’ve been granted stock options, you have to decide whether to exercise them—putting your own money on the line in a company you already depend on for income.

Doing nothing is a decision in itself. And it has real consequences.

In some ways, executing options is just another investment decision. 

Startup equity has a power-law distribution – most go to zero while a few return life-changing sums of money. If you invest in a winner, you’ll first feel really behind in terms of liquid wealth for a long time as your peers have higher cash salaries. Then, all at once, you’ll feel very ahead financially.

• Your startup equity is illiquid, and you don’t really know when it will become liquid. 
• Taxes around startup equity are uniquely complicated. 
• There’s not a lot of transparency in the startup equity world (i.e. companies, even your employer, don’t typically share a ton of information with you because they cannot advise you on your finances). 
• The investment is tied to your single source of income, so investing in it would mean a material concentration of risk. You already are dependent on your employer for income. Now, you'd be dependent on them as an investor.
• You can influence the outcome. If you’re talented, investing in the company you work for is betting on yourself.

Because startup equity is so different from other investments, deciding whether to exercise your options requires a different approach. You’re not just choosing whether to invest—you’re deciding when and how much risk to take on in an asset that’s both illiquid and unpredictable.

That’s why it helps to apply a simple framework—one that accounts for your financial situation, tax implications, and the fundamental risks of concentrated startup bets.

A Simple Framework for Exercising Your Options 

Think of this as an investment decision — because that’s exactly what it is. You’re deploying capital into a single, high-risk, illiquid asset with an uncertain outcome.

Here’s how to decide if it makes sense:

Step 1. Assess your liquidity and risk exposure 

Before exercising, ask yourself some critical questions:

• Can you afford to lose this money? 
• Will you feel okay if you do? 
• Will you be overly concentrated? 
• Do you have enough cash for other priorities (emergency fund, shorter-term goals)? 

To get a clear picture, take inventory of your financial situation:

• Add up your cash, public investments, real estate, and any other assets.
• Subtract liabilities like credit card debt, student loans, or a mortgage.
• Set aside short-term expenses (3-6 months of living expenses, taxes, upcoming purchases).
• The amount left over is your investment budget—the portion of your wealth you can afford to put at risk. This comes from either cash (bank accounts) or public investments (brokerage accounts).

You don’t want to invest in a way that jeopardizes your financial stability. This capital should be allocated strategically, based on your risk tolerance and time horizon.

Step 2. Weigh the tax tradeoffs

Taxes on stock options aren’t just complex — they’re often the difference between keeping 80% of your gains or 50%. 

Why Exercising Early Can Help:

• If your company is early-stage, the 409A valuation (fair market value of common stock) is likely low, meaning minimal tax liability.
• It starts the clock for long-term capital gains (LTCG), which can reduce taxes by 15-20% when you sell. [0] 
• It minimizes Alternative Minimum Tax (AMT) exposure.

Why Waiting Might Be the Right Move:

• Your company’s future is uncertain – If your startup never exits or shuts down, exercising early means you’ve locked up cash in an illiquid investment with no return. Waiting lets you preserve liquidity until the company’s trajectory is clearer.
• You don’t have the liquidity to cover taxes or the exercise cost – Exercising options can create a tax bill before you have the ability to sell shares. If you don’t have enough cash or other investments to cover this, waiting reduces the risk of a forced financial decision.

The goal isn’t to minimize taxes at all costs — it’s to make a tax-efficient decision that aligns with your liquidity and risk tolerance.

[0] Short-term capital gain taxes are the taxes you pay upon the sale of an asset that you’ve owned for less than a year (generally). This tax rate is the same as your ordinary-income rate and can be as high as 37%. Long-term capital gains taxes are the taxes you pay when you sell an asset that you’ve owned for longer than a year (generally). The long-term capital gains rate is between 0% - 20%. Of course, always consult a qualified tax professional for personal tax advice. 

Step 3. Think like an investor, not an employee

Many employees assume that because they work at a startup, they should exercise their options. But investors don’t make decisions based on loyalty — they focus on risk-adjusted returns.

Instead of asking, “Do I believe in my company?”, ask:

• If I weren’t already working here, would I invest my own money in this business?
• Does this company have strong fundamentals—growing revenue, product-market fit, and a path to exit?
• Would a professional investor put money into this company at today’s valuation?

If the answer to these questions is unclear—or worse, "no"—that’s a sign to reconsider.

So what do you do? 

You have a few options: exercise your options now, exercise some options, or wait until there’s more certainty.

Given all of this complexity, I can promise you one thing for certain: there’s no right answer. I don’t know if your startup will be successful. You don’t know if your startup will be successful. Anyone who says otherwise is trying to influence you (your founders might mean well, but even they don’t know for sure). The majority of startups fail, and you have to be very good and very lucky to succeed. 

Historically, fewer than 10% of startups deliver life-changing returns to employees. Yet, the potential big payday of a startup lottery ticket is appealing. The decision to exercise stock options is ultimately about managing risk and liquidity—two things that define long-term financial success.

But I am confident that you should: 

1. Separate to the financial outcome of your stock options, make sure you’re happy with your time investment (working at the company) 
2. Chart out the tradeoffs with this decision so you have full visibility into the pros and cons
   

Most startups have one of two outcomes: success or failure. Success typically looks like an IPO or an acquisition; failure is when you have to shut down the company (or get acquired for pennies on the dollar). Of course, there are some in-between options, such as a medium-sized acquisition or if the company finds a way to continue without a liquidity event. There’s also the possibility of selling your shares on a secondary market at some later-stage companies. 

But for now, let’s focus on your options strategy, given your company falls into one of the two “success” or “failure” categories. 

If your startup fails… 

• If you never exercised your options, you lost nothing. You kept your cash and invested elsewhere.
• If you exercised early, you lose the money you invested. Worse, if you paid taxes at exercise, that money is gone too. You might be able to claim capital losses as a tax benefit going forward, but that’s the only silver lining. 

You can treat this as a good learning opportunity though — always be careful with concentrated startup bets (especially when they correlate with your single source of income). 

If your startup succeeds… 

• If you never exercised your options, you may face a much higher tax bill at exercise.
• If you exercised early, you’ve likely minimized taxes and started the long-term capital gains clock, meaning you keep more of your gains.
• If you own vested shares, you’re no longer tied to the company and can leave on your own terms.

As a reminder, if you exercise your options, you’ll need the liquidity to do so. Typically this comes from other parts of your personal balance sheet – either cash (bank accounts) or public investments (brokerage accounts). Buying private company equity is a risky, illiquid, concentrated investment. It can also potentially one day be worth a life-changing sum of money. You should scrutinize this until you feel confident in your decision. 

You may even want to block off a full day to really understand their equity options, the potential outcome, and the pros and cons of each choice. You can be heads down building your startup but it’s very important to pause and take time to think about your financial future (even if it’s intimidating). 

Keep in mind that exercising is not a binary decision (you can exercise some now, some later, etc.). But you certainly shouldn’t make this investment today if you can’t afford to do so. 

How do you decide?

The best investors don’t chase every opportunity — they manage risk first.

• If you have excess liquidity, a well-diversified balance sheet, and a strong conviction in your company’s future, exercising early can be smart. 

• If you’re unsure about your company’s trajectory, have limited cash, or want to avoid concentration risk, waiting (or passing entirely) may be the better move.

•  If your company is later-stage and on a clear IPO track, the tax tradeoffs may matter more than anything else.

These are just a few ways to answer how to think about the decision to exercise your options.  Either way, the worst decision is no decision. Write a memo to yourself documenting why you’re choosing to or not to exercise your stock options. Writing it down will help you think through your pros and cons and ultimately minimize your personal regret.