Post-Termination Exercise Window: Why It Sucks and What You Can Do About It

Poof – it’s all gone. 

Your stock options, all of them, have disappeared. 

You know what I’m talking about, right? The equity compensation that your startup told you could be worth millions one day? 

Even if you’ve been lucky enough to pick a startup that does well, and you’ve been working hard at it for a few years, if you recently left a startup (either under your own power or because someone…told you to leave), any stock options you haven’t yet purchased expire. They are no more. Bereft of life, they rest in peace. 

Let me clarify: the unexercised options don’t disappear immediately when you’re terminated. Your equity has what’s called a post-termination option exercise window. The standard window is 90 days from the time you depart the company, but you should review your offer letter to figure out what yours is. 

Assuming your company has a 90 day post-termination option exercise window (which you should double-check), this window means any of your vested, not yet purchased stock options will expire (i.e. be returned to the company) 90 days from your departure date. You therefore have three months to (A) decide if you want to invest (keeping in mind this is likely a risky, concentrated investment), and (B) if you do decide to invest, pool together enough funds to afford all of the associated exercise and tax costs. The more valuable your equity, the more exercising will cost you (often into the six and seven figures. 

You find yourself in a tricky situation. And it’s really important - if your startup does well, up to 90%+ of your net worth is tied to this single decision. It’s also not the type of situation where it’s socially acceptable to complain to your friends about the “horror” of needing to pay millions in taxes (because, well, on paper you may be making millions of dollars). 

I’ve written this article to be a Good Human (and to keep my tech job) by explaining how post-termination exercise windows work. Whether or not you think they’re fair, you’re likely affected by post termination exercise windows. 

If you work in tech, chances are that over your career you will find yourself (or currently do find yourself) in a situation where you are leaving a private company and will be faced with these problems. 

You could be leaving your startup voluntarily for a number of reasons – maybe you want to start your own thing, maybe you want to hop to a new startup, maybe you want to take some time off to raise children or backpack in Asia (or raise children while backpacking in Asia). 

You could also be leaving your startup involuntarily. This is a double whammy in that you didn’t choose to become unemployed, and now you have to deal with your options disappearing. 

Whatever the case may be, your equity strategy will have a massive impact on your financial well being and planning for expiring options is a key component in that strategy. 

I hate when people tell me to trust them, but here I am saying it: TRUST ME, PAY ATTENTION TO THIS ARTICLE FOR TEN MINUTES AND THE FINANCE GODS WILL RESPECT YOU (quick addition: my compliance officer says it’s really your choice if you want to trust me). 

Let’s get into the details. 

What is a post-termination exercise window, and why should I care?

TL;DR (but seriously, the nuance matters and the decision could be worth millions. Just read it all; you’re an adult!): 

• If you have a 90 day post termination exercise window (most companies), your unexercised stock options will expire 90 days from your termination date. 
• If you have more than a 90 day post termination exercise window (e.g. 7 years), your unexercised incentive stock options (ISOs) will be treated as non qualified stock options (NSOs) if you choose to exercise them. You’ll have up until the post termination exercise window to do so. 

A deeper dive: 

A post-termination exercise window is the amount of time between when you leave a private company and the date when your unexercised stock options expire. 

The standard exercise termination window is 90 days. It matters, however, what type of options you hold. 

Incentive stock options (ISOs) will either expire or convert to NSOs 90 days after termination. There’s no way around this – in fact, the US government mandates that ISO status expire 90 days after termination.

Here it is written in less-legible-legal english in the IRS code: 

“At all times during the period beginning on the date of the granting of the option and ending on the day 3 months before the date of such exercise, such individual was an employee of either the corporation granting such option, a parent or subsidiary corporation of such corporation, or a corporation or a parent or subsidiary corporation of such corporation issuing or assuming a stock option in a transaction to which section 424(a) applies.”

What about options that are already non-qualified stock options (NSOs)?

Basically, the lawyers were like, “hey yeah, 90 days for ISOs? 90 days for NSOs too!” and ever since the standard for NSO post-termination exercise windows has been the same (90 days). 

There’s (admittedly slow) progress being made to extend the NSO exercise window, typically to 2 to 10 years. As employees have gained more power and recruiting has become more competitive, employers are trying to do better for their employees. And the companies – the very kind and caring type like the one I work at – are extending the exercise window beyond 90 days. 

This extension isn’t an issue legally because NSOs don’t have the IRS changing the rules all the time (at least not yet). And it’s a major win for the personal financial lives of employees! 

The final nuance is that if you (A) are at one of these very nice companies that has longer exercise windows, and (B) hold ISOs, your ISOs will still lose their ISO-ness (aka tax treatment) 90 days after you leave – as is their fate. In this case these options will likely just convert into NSOs which can have the longer exercise window. 

How did we get here?

If you’re reading this and you’re even somewhat smiling—WHO ARE YOU?

If you (or future you) are in a position where you have 90 days to pool together the cash to make this scary decision, on behalf of the startup community, I’m sorry. You deserve better. You worked hard for your equity and it only makes sense for you to have the opportunity to own it. This is a very frustrating position to be in, and surely the late stage capitalism committee will eventually figure something out (and we can hope said solution is a better outcome for shareholders). 

Some are pushing to accelerate Something Better. 

Sam Altman (CEO of Open AI), for instance, from his article in 2014: (emphasis mine)

The idea is to grant options that are exercisable for 10 years from the grant date, which should cover nearly all cases (i.e. the company will probably either go public, get acquired, or die in that time frame, and so either the employee will have the liquidity to exercise or it won’t matter.) There are some tricky issues around this—for example, the options will automatically convert from ISOs to NSOs 3 months after employment terminates (if applicable) but it’s still far better than just losing the assets.  I think this is a policy all startups should adopt.

(Note this article was written almost ten years ago and while there’s been some progress, we’re still not there yet). 

There’s not a no-tradeoff solution. 

Scott Kuper of a16z wrote a post in 2016 makes a counterargument. First he presents the problem of the 10-year exercise window and how it creates dead equity: (the bold formatting is mine)

There is a more fundamental issue at the heart of this seemingly good solution: A 10-year exercise window is really a direct wealth transfer from the employees who choose to remain at the company and build future shareholder value, to former employees who are no longer contributing to building the business/ its ultimate value…A startup that elects, for example, to extend the option exercise window for departed employees is actually creating dead equity at the expense of the “live equity” held by the remaining employees. Just as dead money disadvantages the remaining team members, so too does dead equity affect the remaining employees and resource allocations a startup is able to make (no matter where the company falls on the GAAP vs. non-GAAP accounting-for-options debate).

Kuper’s solution is twofold: make exceptions for exceptional employees, and extend the standard vesting period from 4 years to 6-8 years. He cites that 4 year vesting periods were a function of companies historically going public in 4 years and how because companies are taking longer to go public, the vesting schedule should change: (bold formatting is mine)

Fundamentally, we are here because companies are choosing to stay private significantly longer than the time period for which the four-year option vesting program was originally invented. It’s a historical anachronism from the days when companies actually went public around four years from founding. Today, however, the median time-to-IPO for venture-backed companies is closer to 10 years. Matching vesting more closely to the IPO time frame for companies makes logical sense and would significantly reduce the overhang of options from exited employees.

So there are obviously some nuances to this but the bottom line is that the current system is tough on employees. 

What should I do?

With this knowledge, you have the power to take action now and avoid a tough situation down the line. 

If you are in a position where the clock is ticking (i.e. you were terminated from your company or even if you are thinking about leaving), you need to make a plan (doing nothing is technically a plan!). This plan should include: understanding your current financial position, charting out your goals, determining if you can afford making a risky investment, exploring financing options, and deciding whether or not you believe in your equity (compared to all of the other investment opportunities you have). Disclaimer: Compound, the company I work for, specializes in helping you do this! 

If you’re negotiating a job offer, ask your employer about their post-termination exercise window (alongside these other questions related to your startup offer). Consider only joining companies that have longer exercise windows. And don’t be timid about this either – it could be worth tens or hundreds of thousands of dollars to get this right! You can always use your financial advisor as a scapegoat and say they made you ask about this.

If you already work at a startup, ask an HR leader or the CEO what your company’s post-termination exercise window is. This is a fair question to ask but it’s also good to be sensitive as you don’t want to give off the impression that you are ready to leave the company. Again, it’s nice to have a financial advisor to blame!

And as always, a lot of this can be prevented if you plan ahead. The question of whether  or not to exercise your options is complicated enough for its own post, but having an opinion of this now and writing out the decision you make (even if it’s “I’m not exercising my options now for these reasons:”) can save you lots of regret later.