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Stock options have become the preferred coin of the realm for job seekers in both the new and old economies. Once a perk granted only to top management, including general counsel, options now are being frequently offered to non-managers, including staff attorneys. Today, an estimated 10 million Americans in the workforce own stock options. And despite the market’s vagaries, many more lawyers will be negotiating on their own behalf with prospective employers in the coming months. At least they should be negotiating. To make that process a little easier, here’s a checklist with a few pointers. NUMBER OF OPTIONS The obvious starting point, but critical. Assess: � the demand for your specific skills (and your competition for this job); � the company’s prospects and its limitations of options available under the company stock option plan; � the number of options granted by competitors to similarly qualified and experienced employees; � the risk of leaving an established company to join a start-up (when this applies); � the value of non-vested options left behind with the former employer. COMPENSATION FOR FORFEITED OPTIONS This is often a big issue. Be aware that companies usually compensate potential employees for the value of the options they leave behind with their previous employer. This is usually done both through the initial option grant and with a cash-hiring bonus. Some companies also may offer restricted stock to compensate for forfeited unvested gains. TYPE OF OPTIONS The two types of stock options are “qualified,” or “incentive stock options” (ISOs), and nonqualified stock options (NSOs). Generally speaking, because of the tax treatment afforded to each, employees will want an ISO, and the employer will negotiate for the NSO. An employee who cannot secure ISOs may seek a slightly larger grant of NSOs to compensate. Companies typically issue ISOs only to key executives. Employees need pay no tax when they exercise their ISO option; they can defer until they sell the underlying shares. They will then pay tax at the capital gains rate, not at the higher, ordinary income rates (but the stock must be held for at least two years after the grant and a year after exercising). The company does not get a tax deduction for an ISO. In contrast, an NSO does not satisfy the Internal Revenue Code’s conditions for preferential tax treatment. When employees exercise their NSO stock options, they must pay ordinary income tax on the difference between the value of the stocks and the price paid. Here, the company does receive a tax deduction on the difference, which is the amount of the income recognized by the employee. Employees should be aware that if the ISO is exercised too early or the shares are sold too soon, a disqualifying disposition occurs, the tax benefit is lost, and they will face ordinary income tax liability on the “spread.” In reality, most employees don’t hold their stock long enough to get the tax deferral advantage. VESTING With the stock market’s recent volatility and the resulting decline in the value of many stock options, the timetable for vesting may be one of the most crucial items to negotiate. Both the employer and employee should have a clear understanding of what happens to the options in the event of a change of control of the company or termination of employment. Departing employees typically have 60-90 days to exercise any vested options, and companies can agree to accelerate the schedule for options that have yet to vest at the time employment is terminated. Employees should consider asking, in anticipation that the company is bought, for a higher percentage of their shares to vest at an earlier date than under the original schedule. It is realistic to request an acceleration of one year. FUTURE OPTIONS Most companies are not willing to commit themselves contractually to the promise of more options in the future. There is likely to be more flexibility on the company’s part through “reload grants,” in which employees can swap their right to exercise vested options for the opportunity to have a greater number of options in the future. REPRICING While not always a negotiating point, it is important to keep in mind that, during a bear market, the company may cut the exercise price of what have become worthless options. Companies may resist repricing because the favorable accounting treatment given to fixed-price options would be lost, resulting in accounting charges that could hurt the company’s financial reports. TRANSFERS OF OPTIONS Most stock option plans will not allow nonqualified stock options to be transferred in certain circumstances, such as divorce. However, for key executives, some companies will allow the transfer of options to family members in order to cut estate taxes. Employees should consider this factor when negotiating their contracts. TAKE STOCK IN LIEU OF OPTIONS Depending on the risk associated with the new company’s financial health, a prospective employee may ask for stock instead of options under the theory that, in a climate of falling stock value, options will be worthless. Even low-priced stock will have some value, compared to none for worthless options. INDEMNIFICATION Both employers and employees should discuss at the outset of the employment relationship who will bear (or share) the risk if the employer’s stock option plan is invalidated for any reason, such as failure to comply with regulatory requirements. Numerous regulatory schemes may govern stock option plans, including those of the Securities and Exchange Commission, the Internal Revenue Service, and the Employee Retirement and Income Security Act. If these issues are hashed out in advance, prospective employees and their companies should be able to avoid misunderstandings — and, more importantly, litigation. Joseph P. Breen is an employment law specialist and partner in the San Francisco office of Redwood City, California’s Ropers, Majeski, Kohn & Bentley.

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