[wefarrell]

> If they had options instead, and had held them for at least a year, they'd pay 20% in capital gains, so they'd walk home with $800K.

That isn't the case. They would be taxed as regular income if you waited to exercise them until the exit.

In order to be taxed as long term capital gains they'd need to exercise them and hold them for a year. When they exercise them they would be taxed as regular compensation based on the fair market value. That isn't without its risks - if the value of the options declines it's possible to lose money.

[alenlpeacock]

I should have said "if they held exercised options." You are absolutely right if not exercised, and right that there are always risks of declining value if held. It is possible, btw, to exercise options prior to exit.

In practice, there is often a mandatory holding period for sale of options after IPO and even after sale of company when stock is converted to stock in the acquiring company, so that risk doesn't disappear by virtue of choosing to not hold.

Personally, I'd take the risk of decline in value over the non-risk of a guaranteed 20% reduction in value, but undoubtedly you can find examples of companies which do lose more than 20% over the 12 months after exit.

My point is simply that the arrangement to pay out bonus in the event of an exit begins in the hole 20% over the arrangement to give out stock. And the worst part of this is it doesn't even accrue 20% more to the company or to other stock holders -- it just evaporates due to bad tax planning. I guess those who experience this can take some solace in their loss buying more roads, missiles, schools, corporate tax breaks, or whatever preferred tax policy they'd like to imagine contributing to.

I'm not anti-tax. Taxes are good, and people should feel good about paying them, mostly. But low long term capital gains exist for a reason. The government is incentivizing the exact type of investment that stock options can represent.