Stock Options vs RSU (Restricted Stock Units)

Differences Between Stock Options and RSU

The key difference between Stock Options and RSU is that in stock option the company gives an employee right to purchase the company’s share at the pre-determined price and the date, whereas, RSU i.e. restricted stock units is the method of granting company’s shares to its employees if  the employee matches the mentioned performance goals or complete the specific tenure in the company as an employee.

Stock-Options-vs-RSU

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When we talk about the stock option, it means employee stock optionsEmployee Stock OptionsEmployee stock option plan (ESOP) is an “option” granted to the company employee which carries the right, but not the obligation, to buy a promised number of shares at a pre-determined price (known as exercise price). read more and not options (call and put options). The stock option is given to high performing employees as a part of remuneration. They can use these shares and can make a profit later as per the terms & conditions of the stock options.

For example, if a company hires a new CEO and offers him 20,000 stock options. The company determines the term of the stock optionThe Stock OptionStock options are derivative instruments that give the holder the right to buy or sell any stock at a predetermined price regardless of the prevailing market prices. It typically consists of four components: the strike price, the expiry date, the lot size, and the share premium.read more in such a way that the CEO would be able to exercise his rights on the stock options after 3 years from his joining date. Now the CEO receives the stock options at a flat rate of $4 per share. His purpose would be to increase the stock price as higher as he can do in the next 3 years. After 3 years, he can sell his stocks, let’s say at $15 per share, and can make a profit of $11 per share. That is a huge profit.

Often stock options are offered to employees who perform exceedingly well. And also, stock options are given at a discount rate (less than the price of the stock at that time) so that the stock option can be considered as a reward.

On the other hand, the restricted stock unit is offered to keep exceptional employees in the organization. But the way RSUs are constructed is different. RSUs are paid as per a vesting schedule and don’t offer all the shares together.

Stock Options vs RSU Infographics

Options-vs-RSU

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Key Differences

  • The first key difference is shareholders’ rights. In the case of stock options, the employee receives the full right of the shareholders. On the other hand, in the case of restricted stock units, the employee doesn’t receive the full right.
  • The stock option offers both voting rights and dividend rights. In the case of restricted stock units, voting rights are not given, and even dividend is also not paid.
  • The payment during settlement is always stock in the case of stock options. On the other hand, the payment during settlement can be cash or stock.
  • After the vesting period, the stock option becomes the common stock. But for the RSUs, the settlement is done once the vesting period is over.

Example

For example, Jay is a great employee, and his organization wants to keep him. To entice him to say the company decides that they would pay Jay 2000 RSUs but as per the vesting schedule of 400 shares each year for the next 5 years. If Jay stays in the organization for the next 2 years, he would only get 800 shares.

There’s another part of RSUs which we need to understand. When RSUs are offered, it also creates capital gain taxes and income taxes. Companies don’t pay capital gain taxes and income taxes. The employees who are offered RSUs need to pay the taxes.

If we take the example of Jay and let’s say that each RSU can be sold at $10 per share, he has been offered (2000 * $10 per share) = $20,000.

And if the capital gain taxes and income taxes turn out to be $5000, Jay would only receive = ($20,000 – $5000) = $15,000 after selling off the RSUs.

Comparative Table

Basis of comparisonStock OptionsRSUs
Offered dateStock options can be issued any time after the issuance.Restricted stock units can also be issued any time after the issuance.
Shareholders’ rightThere’s a full right of the shareholders offered.There’s a restricted right of the shareholders offered.
Voting rightsGiven.Not given.
Dividends paidYes.No.
Settlement after vestingAfter the vesting period is over, stock options become common stock, and it depends on the employee how she wants to exercise that option.In the case of RSUs, terms are followed, and the shares offered are settled. The settlement can be deferred for receiving tax benefitsTax BenefitsTax benefits refer to the credit that a business receives on its tax liability for complying with a norm proposed by the government. The advantage is either credited back to the company after paying its regular taxation amount or deducted when paying the tax liability in the first place.read more but to a certain extent.
Payment during settlementStock.Cash/Stock.
Tax treatmentIn the case of the stock option, taxes are paid at the time of sale at the long-term capital gain rate (for qualifying disposition). Otherwise, for non-qualifying disposition, taxes are paid at the time of sale at the income tax rate.In the case of RSUs, taxes are based on vesting. If at the time of settlement, the company grants stocks, and the employee keeps the stock for more than 12 months, then capital gains treatment can be possible.

Conclusion

As you can understand by now, restricted stock unitRestricted Stock UnitRestricted Stock Units or RSU can be defined as stock-based compensation that is issued as company’s stock to an employee. The company establishes vesting requirements based on the performance of an individual and the length of the employment.read more and stock options are offered so that the companies can hold on to extra-ordinary employees. But both of these options are quite different, and the scope of each of them is diverse too. That’s why understanding them separately is essential and gives us an opportunity to think before applying.

Stock Options vs. RSU Video

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