Daniel Zajac, CFP®

Incentive Stock Options and Executive Compensation

stock options

What Is Cost Basis on Stocks, and Why Is It Important for Equity Compensation?

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If you have equity compensation, you may wonder how the value of the shares you hold may influence your tax bill — or how vesting, exercising, and selling your shares may impact the value of your award.

The type of equity compensation matters when looking at these questions. When you have incentive stock options, the alternative minimum tax (AMT), long-term capital gains, and a qualifying sale are all important factors to consider.

If instead you have restricted stock units or non-qualified stock options, then the AMT is not an issue and the tax rules you need to understand are a little easier to follow.

In either case, much of the conversation around the tax implications of your equity compensation only addresses what happens when your shares vest (for RSUs) or you exercise your options. While these can be major taxable events, you also need to consider what the tax implications may be when shares are sold.

And to do that, you need to understand the cost basis of your equity compensation and how this impacts a taxable event when you sell your shares.

What Is Cost Basis?

The cost basis of stock is the price you paid to acquire the shares. The cost basis is important because it determines what you may or may not need to report as taxable income when you sell your stock shares.

Cost basis is important in any investment, whether through equity compensation or another vehicle, because it helps prevent being taxed on the same money twice.

To better understand how cost basis works, let’s assume that you establish a taxable, non-retirement investment account and you contribute $50 to it. That $50 is after-tax money, meaning you’ve already paid taxes on that amount.

If we assume you use this after-tax money to buy a single share of stock costing $50, that purchase price becomes your cost basis.

If the stock price increases and you sell your stock for $75 per share at some point in the future, the total proceeds you will receive will be $75. $50 of this amount is the return of your cost basis and is not taxable as you’ve already paid taxes on this amount. The $25 above the cost basis, however, is the realized taxable gain and subject to the requisite capital gains tax.

If the stock price goes down and you sell the stock at $40 per share, you have a realized capital loss of $10 per share instead. You can use this loss to offset future capital gains or against ordinary income taxes, up to certain limits.

The Impact of Holding Periods

Cost basis plays an important role in determining the taxes you owe. So too does when you purchased the shares of stock.

The taxes you pay on an investment gain are impacted by the time between the date you purchased shares and the date you sold to acquire the realized gain. That period of time determines the holding period, and will either be considered short-term or long-term.

For your investment to be considered “long-term,” you must hold the shares for at least one year past the purchase date. By doing so, you’ll be taxed at a long-term capital gains rate. That’s preferable to the short-term capital gains tax rate because it’s lower; long-term gains are typically subject to a 0 to 20% tx rate. Short-term capital gains, on the other hand, are usually taxed at higher ordinary income rates.

Equity Compensation Can Make Cost Basis More Complicated

In the example above, it’s easy to calculate the cost basis. It’s simply the purchase price of the share, or $50.

For equity compensation, however, there are many more factors that go into calculating the cost basis; you cannot rely on the purchase price of shares alone to determine it. A combination of items may come into play, including the amount per share included as ordinary income on your W-2, the amount paid for the stock via the strike price, or both.

The type of equity compensation you have matters, too. Let’s look at how cost basis can vary depending on whether you have RSUs or stock options.

Calculating the Cost Basis of Restricted Stock Units  (or Awards)

Generally speaking, receiving restricted stock units doesn’t cause a reportable tax event. A taxable event does occur when your restricted stock units vest and are no longer subject to a substantial risk of forfeiture.

On the vest date, you can figure the value subject to taxes by using the following equation:

Taxable Amount = Vested Restricted Stock x Fair Market Value

So if we assume that you have 1,000 restricted stock units and they vest at $50 per share, the calculation is as follows:

1,000 x $50 = $50,000

When RSUs vest, your employer will usually withhold a certain amount to help cover your tax bill. Generally, they use a 22% rate to account for federal tax (or 37% if you have over $1,000,000 of income),. They’ll also withhold a portion to cover Social Security, Medicare, and other requisite taxes.

After withholding, employers commonly deposit shares of stock into a brokerage investment account for you. This income is typically picked up on a W-2, and income tax is withheld.

Because you are taxed on the FMV value per share at vesting, the shares you own after the vest date will have a cost basis equal to the FMV on that date. In our example above, that’s $50 per share.

Calculating the Cost Basis of Non-Qualified Stock Options

Like RSUs, non-qualified stock options are not taxed on the grant date. The intrinsic value of non-qualified stock options is taxed when you exercise your right to the option.

When you exercise, the difference between the strike price of the non-qualified stock option (NSO) and the FMV of the stock at that time is taxed as ordinary income. This amount is subject to Social Security, Medicare, and other requisite income taxes and your employer will typically withhold at the same statutory rates discussed in the RSU example above.

To see how this may play out, let’s assume you have 1,000 NSOs with a FMV of $50 per share and a  strike price of $10 per share. When you exercise your NSOs, you can calculate the amount subject to taxes with the following formula:

NSO Exercised x (FMV Stock – Strike Price) = Taxable Amount

1,000 x ($50 – $10) = $40,000

Post-exercise, the cost basis of the shares that you retain will equal the price you paid for the share ($10) plus the amount claimed as ordinary income on your W-2 ($40). Therefore, the cost basis is $50 per share.

Calculating the Cost Basis of Incentive Stock Options

Incentive stock options are typically more complicated than other types of equity compensation because you may be subject to paying the alternative minimum tax. You may also need to factor in the impact of a long-term capital gains tax treatment.

If you have incentive stock options (ISOs), you should be aware of the potential for a dual cost basis. A dual cost basis means that you have a cost basis for figuring the regular income tax and a cost basis for figuring the AMT.

The cost basis for figuring your regular tax on incentive stock options is equal to the strike price of the ISO if you exercise and hold the shares (which would allow you to meet the rules for a qualifying disposition). If you sell the shares of stock prior to meeting the qualifying disposition standard, the regular cost basis may need to be adjusted based on the FMV of the stock when you sell.

The AMT cost basis is equal to the FMV of the stock when you exercise your option. AMT basis is used to calculate how much AMT you may owe in the future and how you may access AMT credits.

Calculating the Cost Basis of Employee Stock Purchase Plan Stock

Similar to incentive stock options, the cost basis of stock acquired through an employee stock purchase plan is complicated.  It is not the AMT, however, that makes the cost basis of ESPP shares complicated.  It is that the cost basis may be impacted by the purchase price you paid to acquire the shares of stock, the discount received (if any), and the lookback provision (if applicable).

You’ll also need to consider the timeline between the offering date, the purchase date, and the final sale date of your shares.  These timelines can impact how much of your money is taxed as ordinary income and how much may be taxed as a capital asset, all of which can impact the cost basis.

If you participate in an ESPP, you may want to work with your advisor to plan for what your cost basis may be and how this will impact your after-tax proceeds received.

Using Cost Basis for Financial Planning with Equity Compensation

Knowing the cost basis of your stock is an important consideration when figuring your financial plan.  This information can be useful in projecting what the tax bill of a sale of stock might be and how much after-tax proceeds you will receive.

Tax basis can also help dictate which shares to sell. All else being equal, shares of stock with a cost basis near or equal to the FMV may be more advantageous to sell than shares with a cost basis that is meaningfully less than the FMV of the stock as the smaller capital gain means a smaller tax due.

In addition to the cost basis, you’ll want to pay attention to the holding period of the stock. Shares held for longer than one year from the purchase date will be eligible for the lower-cost long-term capital gains treatment.

The content herein is for illustrative purposes only and does not attempt to predict actual results of any particular investment.   All investments are subject to risk, including the risk of principal loss.  Diversification does not guarantee a profit or protect against a loss.  None of the information in this document should be considered as tax advice.  You should consult your tax advisor for information concerning your individual situation.  Tax services are not offered through, or supervised by, The Lincoln Investment Companies.

The information in these articles may change at any time and without notice.  Laws of a specific state or laws relevant to a specific situation may affect the applicability, accuracy, or completeness of this information. The information presented here is not specific to any individual’s personal circumstances. There is no guarantee that any strategies discussed will result in a positive outcome.  The purchase of certain securities may be required to effect some of the strategies.

You should discuss any legal, tax or financial matters with the appropriate professional. Nothing contained herein should be construed as a recommendation to buy or sell any securities. As with all investments, past performance is no guarantee of future results.

How to Determine When to Take Action on Your Public Company Equity Compensation Benefits

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If you have equity compensation as part of your benefits package, you’ve likely spent time considering when it might be best to take action and maximize the value of these potential assets.

Deciding the right time to take action is complicated by several factors, including your personal goals and objectives, the rules of your employer’s plan, and the grant information on the equity you have.  There’s also the unknowable variable of how the company’s stock may perform in the future.

While this may sound like bad news, it’s really just a reminder of the importance of good planning. Proactively creating a strategy for how to manage your equity compensation can put you ahead of the curve and have you prepared for what you should be thinking about as you plan to take action on your stock plan benefits.

You may also feel better knowing that while the situation can get complicated, there isn’t an unlimited number of actions you could take and need to decide on. In a short summary, there are three core choices you need to make:

  • Deciding if you’ll exercise your plan benefits (if applicable)
  • Deciding if you’ll keep the shares
  • Deciding if you’ll sell your shares and collect the proceeds

In making your choice, you should consider the type of plan benefits you own, as the rules and the impact for each can vary widely.

For example, you may have incentive stock options, non-qualified stock options, restricted stock, employee stock purchase plans, and so on — all of which may have a different impact on how much tax you pay, when you pay it, how it’s paid, and how much after-tax proceeds you receive.

Once you’re clear on the type of equity comp you have, you can start narrowing in on the right time to take action. To help make this process more manageable, here are a few times when it may make sense to exercise, hold, or sell:

As Soon As Possible

For many types of stock plan benefits, the first opportunity you have to take action isn’t as soon as you get an award. It’s some date after you are awarded the stock grant, determined by your vesting schedule.

A vesting schedule states that to receive the stock grant benefits, you need to meet certain requirements. Many companies issue stock compensation with a schedule that’s tied to a period of time you must remain with the company in order to receive the value of the plan benefit.

Your first opportunity to take action is whenever your options or grants are fully vested. At this point, you may want to immediately exercise (if you have stock options or stock appreciation rights).

If you have restricted stock (or awards) or performance shares instead, you may want to hold the shares that you now own (assuming a stock settled award) or sell the shares at the prevailing market price.

When You May Be About to Lose the Opportunity

If you have employee stock options or stock appreciation rights of a public company, your option to exercise does not last forever. Stock options and stock appreciation rights are issued with an expiration date. If you go past that date, you forfeit the right to exercise your option.

If you have public company stock options with a grant price that is below the current fair market value of the stock and are approaching or near the expiration date, you probably need to exercise and purchase shares at your strike price so you don’t forfeit the value.

After you exercise your options, you can usually either keep the shares or sell them.  You don’t need to decide until after you exercise, so if you’re unsure, don’t let that stop you from taking what’s arguably the most important step when you’re facing a “use it or lose it” situation due to an impending expiration date.

Once You’re Outside of a Lock-Up or Blackout Period

If your company recently went through an IPO, your shares may be subject to a 6-month lock-up period in which you cannot take action and sell your shares. (Some lock-up periods may be shorter or longer, but 6 months is a common timeframe.)

You may still be able to exercise some of your options during this period. You should check your plan document to be sure of the details.

A blackout period is another time that you may not be able to sell your shares. A blackout period can be set by the company even after the company is public and can restrict the sale of shares. When the blackout period is lifted, you are in an “open window” and likely have the chance to take action and to sell your shares.

After You Meet Specific Holding Periods for Tax Purposes

If you have incentive stock options or qualified employee stock purchase plan shares, you may want to take action if you meet specific holding period requirements that allow for preferential tax treatment. Here’s what these requirements look like, depending on the type of equity compensation you have:

For Incentive Stock Options

  • The final sale of the stock occurs at least 2 years after the grant date, AND
  • The final sale of the stock occurs at least 1 year after the exercise date

For Employee Stock Purchase Plan Shares

  • The final sale occurs at least 2 years after the grant date, AND
  • The final sale occurs at least 1 year after the purchase date.

If you meet these standards, you have a qualifying sale or disposition. That allows you to take advantage of lower tax rates (instead of being taxed as ordinary income) on gains.

There’s a Financial Planning Reason to Act

Participating in or being on the receiving end of stock plan benefits can be a great way to generate wealth and participate in the appreciation of a company stock price.

But at some point, you’ll want to integrate the value of your company stock into your overall financial goals and objectives. This typically requires a process that meets at the intersection of tax planning, investment management, and financial planning.

Financial planning can help you address common questions:

  • How much company stock do I currently own?
  • How much do I need to retire?
  • What are the tax implications of my decisions?
  • How do I fund college for the kids?
  • How do I manage, protect, and transfer my stock plan wealth most effectively?

A good time to take action on your stock plan benefits may when you’re asking these questions, or beginning to suspect you need some or all of your stock plan assets to meet your financial planning goals and objectives.

The Right Time To Take Action

Determining the right time to take action on your stock plan benefits is a personal decision that needs to consider your personal goals and objectives, your financials, and the rules and regulations set in place by your employer and by the tax code.

A good place to start may be to learn more about what stock plan benefits you have and key dates that you should be aware of. From there, you can begin to plan a timeline for when you can take action and build a strategy for what that action may be.

The content herein is for illustrative purposes only and does not attempt to predict actual results of any particular investment.   There is no guarantee that any strategies discussed will result in a positive outcome. All investing involves risk and no investment strategy can guarantee a profit or protect against loss, including the potential loss of principal.  None of the information in this document should be considered as tax advice.  You should consult your tax advisor for information concerning your individual situation.  Tax services are not offered through, or supervised by, The Lincoln Investment Companies

Have Equity Compensation? Here Are 8 Steps To Take in the New Year

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A new year can be an opportune time to review your equity compensation package. Not only does this give you a clean slate to work with, but it also affords you the most time to plan and implement your strategy for the fresh calendar year ahead.

When it comes to annual planning for your equity compensation, you’ll want to consider a number of items. To get started, you might want to ask (and get answers to) questions like:

  • What type of equity compensation do I own?
  • What are the tax implications of what I have?
  • Should I continue to hold shares that I own, or should I sell and diversify my portfolio?
  • How do the actions and decisions I’m considering fit into my overall financial plan?

You’ll likely have other questions too. But these are some of the commonly asked ones and provide a good place for you to start. Once you have some of the answers, you can begin to develop a plan that works for you.

To further help you with the planning you should do for your equity compensation in the new year, use this list of 8 steps you can take to best position yourself to create a smart strategy.

1 – Review What Occurred with Your Equity Compensation Last Year

The beginning of the year is a great time to review what you accomplished in the previous year. It’s also a is a good time for a gut check and self-reflection on your equity compensation plan and how well you are using it to achieve your goals and objectives.

One way to test your success is to evaluate your plan, and review how well (or not) you stuck to that plan during the previous year. If you struggled to execute or implement your strategy, it might be a smart move to reach out to a financial advisor to help you and hold you accountable for the actions you need to take.

2 – Determine If You Have Stock Options or Restricted Stock Units That Vest This Year

If you have equity compensation that is set to vest this coming year, pay close attention to the details around these events. You will likely need to make a number of decisions about what to do with these shares once vested.

If you have restricted stock units, their value will be taxed as ordinary income. You’ll want to include this income in your tax and cash flow planning. You’ll also want to plan the next step for your vested RSUs.

One option might be to retain vested RSU shares post vesting in hopes the stock price will go up in value. A second option might be to sell shares immediately and redirect the proceeds into something else (like contributing to a savings goal, paying down debt, or allocating the funds into a more diversified portfolio).

If you have incentive stock options or non-qualified stock options, vesting shares will likely have no immediate impact on your tax return. Vesting simply gives you the right to act upon the option, not the obligation to do so.

But knowing that you’ll soon have that right once your shares vest, now is the ideal time to review your exercise and sell strategy.

If your stock options are deep in the money, meaning the fair market value of the stock is significantly higher than the exercise price, you may want to consider capturing that value. This may mean an exercise and sell of some (or all) shares. Otherwise, you may choose to keep your options as is and wait to exercise them.

The decision to exercise, hold, and sell your incentive stock options and non-qualified stock options is complicated. You should consider how your options are taxed (ISOs and NSOs are taxed differently), how it may impact your cash flow (by asking questions like, can you afford the cost of exercising?), and how it impacts your financial plan.

3 – Check for Equity Compensation That May Expire Soon

It’s important to periodically review the expiration date of your incentive and non-qualified stock options. If the options are set to expire this year and they’re in-the-money, exercising them before that expiration date might be a good choice.

If you don’t exercise the options before they expire, you lose any embedded value of the option. If you do exercise, you’ll want to consider a few things, including but not limited to:

  • When during the calendar year you want to exercise?
  • What are the tax implications if you choose to exercise?
  • How does an exercise of stock options impact your cash flow?
  • What will you do with the shares that you can exercise? Keep them, sell them, or sell some and keep others?

It also makes sense to take note of shares that are set to expire in the next year or two, because exercising now could be a better move than waiting until the last minute.

That’s not always the case, but this is why it’s wise to investigate now so you have time to make decisions and act accordingly. There’s no one “right” answer that applies in every situation, and you may need to do a detailed analysis of your personal plan to determine what might be best for you.

4 – Determine If You’ll Have a Qualifying Disposition with Any ISOs or ESPP Shares

A qualifying disposition of incentive stock options is one in which the final sale occurs at least 2 years from the grant date and 1 year from the exercise date of the option. If you have shares that are set to meet this requirement this year, you should identify them and create a plan.

These shares are especially important because the full gain from the exercise price of the stock to the final sale price is taxed as a long-term capital gain. They may also be advantageous when it comes to getting an AMT credit.

If you have employee stock purchase plan shares that meet the rules for a qualifying disposition, you may want to evaluate what to do next with these, too. Meeting the requirement may allow you to benefit from long-term capital gains tax rates on the majority of the proceeds of the sale.

(Note that the rules around this can get a bit nuanced, so you’ll want to read this to make sure you understand them first.)

The beginning of the year is a good time to identify newly-minted qualifying shares, as well as qualifying shares from previous years that have not been sold.  Once identified, you can further consider a plan for exactly what to do with these shares.

5 – Develop a Strategy to Exercise Some (or All) Shares

The beginning of the year can be a good time to exercise some of your shares from vested incentive stock options. An exercise early in the year may allow you to best manage your cash flow and give you the opportunity to see how the stock performs prior to locking in a single tax event.

Taxes triggered by exercising, holding, and later selling incentive stock options are not due until tax filing time in the year following the year of exercise. You may be able to exercise your shares, hold them for 1 year, sell them, and use the proceeds to pay the pending tax — all as a qualifying disposition.

An early in the calendar year exercise may also allow you to better manage the alternative minimum tax. If the stock price increases between the exercise date and the end of the year, you may want to keep the stock to reap the benefits of long-term capital gains rates.

If the stock price decreases, however, selling your ISO shares in a disqualifying disposition may make more sense. A disqualifying disposition in the same calendar year will eliminate the AMT adjustment for the calendar year, removing some of the impacts of paying the AMT.

Note that this will cause the gains (if any) to be taxed at ordinary income rates, but the proceeds of the sale will be available to pay the requisite tax due. This can help make it easier to manage the cash flow aspects of the transaction.

6 – Review and Adjust for New Grants Received

If you’re on the receiving end of new restricted stock units or other employee stock options, you’ll want to consider how these fit into your plan.

To start the process of integrating newly issued grants into the plan, you’ll want to consider what type of grant it is, when the grant vests, and how it will be taxed (amongst other things).

With that key information, you can begin to fit the new grants into your strategic and tactical decision making.

7 – Review and Plan for Estimated Taxes

Now is also a good time to complete a review of your expected tax return. Once the previous year is over, you can be certain of your transactions and make a final estimate of what your income tax liability (or refund) may be.

The tax implications of dealing with equity compensation will depend on the types of compensation you have, whether or not you exercised and sold shares, or had shares vest.

For example, restricted stock units and non-qualified stock options are likely subject to ordinary income, Medicare, and Social Security taxes. Income taxes may also be withheld on RSUs when they vest (and the same happens with exercised NQSOs) through a cashless transaction or a share withholding by your company.

This withholding may help alleviate a potential tax burden down the road, but the forced withholding may or may not be enough to cover your total tax need. You need to run your own numbers to confirm enough taxes were held back, and if not, plan to set aside some cash to pay what is still owed.

If you have incentive stock or ESPP shares, taxes probably won’t be withheld at all. In this case, you’ll need to plan for estimated tax payments or for a larger tax bill next spring.

Complicated tax rules are one reason why you may want to consider your overall financial and tax plan before you exercise or sell your shares. An uninformed employee who decides to exercise may create a tax liability that is bigger than they can actually afford. Being aware of cash flow when you exercise your options is a critical part of the conversation.

8 – See If You Are on Track to Meet Your Goals

Equity compensation can be a fantastic way to increase your wealth — but it also means handling an increased responsibility to understand how your equity compensation works, how it is taxed, and how to make the best decisions with this potential tool for growing wealth at an exponential rate.

The new year is a great time to review how your equity compensation is (or isn’t) helping your reach your financial goals. These could include preparing for retirement, buying a new home, funding college tuition, and so on.

Part of this review includes an honest assessment of what your goals may be. Is your primary goal to minimize the amount of tax you pay on your equity compensation? Or is your goal to grow your account balance so high that you amass generational wealth?

Another goal may be to use your equity compensation to set a reasonable financial goal that targets financial freedom, or perhaps you’re working on controlling your cash flow and have past debts that you need to repay.

Whatever your specific goals and values are, now is a good time to evaluate how close you are to achieving what’s most important to you.

And if you’ve “made it,” it may make sense to consider what risk you retain by keeping shares of a single stock. Typically, a single stock brings with it a more volatile position as compared to a more diversified portfolio. You may run the risk that you go from “made it” to “not there yet” should the stock price drop.

To best set yourself up for success, it takes a combination of understanding the tactical aspects regarding what types of equity you own, what the rules of the plan may be, how said compensation is taxed, and how it will impact your cash flow.

These details should be integrated into a strategic financial plan that is targeted towards meeting your personal goals and objectives.

The content herein is for illustrative purposes only and does not attempt to predict actual results of any particular investment.   Diversification does not guarantee a profit or protect against a loss.  None of the information in this document should be considered as tax advice.  You should consult your tax advisor for information concerning your individual situation.  Tax services are not offered through, or supervised by, The Lincoln Investment Companies.

Should You Exercise and Sell All Your Employee Stock Options Right Now?

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If you have employee stock options, you’ve probably spent time considering the absolute best time to exercise those options — and from there, whether you should sell or hold your shares.

Answering the question of “when” — when to exercise, and when to sell — is wrapped in complexity. With so many liquidation strategies at your disposal and so many personal needs to consider (such as what kind of stock options you own and what the tax implications may be for taking action with them), the decision-making web can seem endless and overwhelming.

But there is one approach that can make everything much simpler: exercise all your options and sell all your shares immediately.

No tax planning, no worries about the future value of the stock or what you may be “missing,” no holding period requirements that keep you invested longer than your intentions.

Just exercise and sell everything.

The result? You transfer value in your employee stock options into cash proceeds that can be used to fund your financial planning goals and objectives immediately.

It sounds simple and straightforward enough. But is this the strategy for you? A good start to discovering the right answer is to educate yourself on the positives and negatives of this strategy. Here’s what you need to know.

Advantages of Liquidating Your Employee Stock Options Right Now

The most notable advantage to an immediate exercise and sale of all your employee stock options is that you transfer the imbedded value of your employee stock option into cash. In other words, you transform paper value into real value via cash you can use right now.

The best use of this cash might be to reinvest it in the market through a more diversified portfolio. You could also use it to fund specific savings goals. Or, depending on your financial situation and plan, it might be appropriate to use this money right away in other areas of your life.

A second benefit of the exercise-and-sell-immediately strategy is the ability to diversify your assets. We touched on this above, but it’s worth digging into more detail to understand what happens when you hold instead of sell.

A large position in a single company stock exposes you to concentration risk. With concentration risk, you retain the possibility that the value of your stock options can swing drastically in a short period of time.

If you exercise and sell, you remove the inherent volatility associated with concentration risk. And again, you can then use the proceeds to invest through a better diversified, more strategic investment portfolio.

While diversification does not guarantee protection from market volatility or investment loss, it’s generally accepted that a diversified portfolio will lessen the volatility of your investment portfolio.

A final advantage of the exercise-and-sell-it-all strategy? Certainty. A bird in the hand is better than two in the bush, after all.

If you exercise and sell, you know what you the final outcome of your transaction will be. No more guessing, projecting, or hoping for a future value of your stock options. No more seeing the value of your employee stock option statement change.

When you exercise and sell, you know the exercise price, you know the market price when you exercise (or hopefully very close to it), and you know the final sale price (or very close to it). Therefore, you know what will you get once that transaction is complete.

Certainty is intangible, but that doesn’t mean it can’t be of great value when it comes to building wealth.

Disadvantages of an Immediate Exercise and Sale Strategy for Employee Stock Options

When you exercise and sell your employee stock options, the transaction is taxable and reportable on the calendar year’s tax return in which the transition occurred. Any profit you realize will be taxed as ordinary income.

Ordinary income receives no preferential tax treatment and is taxed at the highest marginal tax rate — which could be a potential downside when it comes to exercising and selling all of your options and subsequent shares.

If you have a lot of profit potential in your employee stock options, receiving that profit after implementing this strategy could push you into a higher tax bracket. All else being equal, a higher tax bracket means more tax owed and less money in your pocket.

Essentially, you lose some tax efficiency when you exercise and sell everything all at once. In some cases, you could pay less in taxes if you use a different approach and exercise and sell your stock options over a period of time.

But the most tax efficient strategy isn’t necessarily the best one, depending on your specific circumstances.

You should talk to an advisor with experience in both leveraging stock options and understanding tax planning to run the numbers. Then, compare various strategies available to you. You’ll want to evaluate what leaves the most money in your pocket, of course — but you also need to consider pros, cons, and trade-offs.

Another disadvantage of exercising and selling immediately is one that specifically pertains to incentive stock options: you will not get to perform a qualifying disposition. Again, this is a tax-related issue.

It means you won’t be able to take advantage of the lower tax rates you may get if you exercised, then held shares and sold them later. This isn’t a reason to automatically rule out the exercise-and-sell-immediately strategy — but it is something to keep in mind and weigh alongside all the other factors that will impact your decision.

Thinking Through the Unknowns: What About the Future Value of Your Options?

If you exercise and sell your employee stock options, you also forego the upside potential of your company stock. Holding employee stock options affords you the opportunity to participate in potential price appreciation of the shares.

An appreciating stock price is certainly not guaranteed — and the volatile path the stock might take on its way to higher value might not be an experience you can emotionally handle — but it is possible that you can make a lot of money by staying invested.

And it’s also possible you lose a lot of money, too. While it’s worth considering the potential future value of company stock before you decide what strategy you want to use, you can’t base your entire decision around what to do on this alone because you simply don’t know what will happen.

There’s Leverage to Think About, Too

In addition to giving up on maybe getting a bigger gain in the future, selling everything now also means you give up leverage. Leveraging your stock options may allow for your growth to be more than the actual growth in a stock price, as a percentage basis.

Here’s what that means: If you have 10,000 stock options with a grant price of $10 per share and a current market price of $20 per share. then the value of your employee stock options is $100,000.

Value = Number of Shares * (Current Price – Exercise Price)
= 10,000 * (20 – 10)
=$100,000

To illustrate leverage, we can adjust market price of the stock in 20% increments and calculate the value of the employee stock options

Stock Price % Change of Stock Change in ESO Value Increase in Value
$16.00 -20% $40,000 -40.00%
$20.00 0% $0 0.00%
$24.00 20% $40,000 40.00%
$28.80 20% $48,000 34.28%
$34.56 20% $57,600 30.64%

As the price of the stock moves by 20%, you can see the value of the stock options increases by significantly more. When the stock price increase from $20 to $24 per share, a 20% increase, the value of the stock options increase by 40,000, or 40%.

Again, you can’t base your decision on whether to exercise and sell everything immediately solely on something like this. But it’s worth considering and making a part of the conversation around what you should do with your options.

A Few Good Reasons to Exercise and Sell

It’s easy to write about the advantages and disadvantages of an immediate exercise and sell, but how do you incorporate this into practical decision making?

One compelling reason to exercise and sell everything right now is if the after-tax proceeds of the transaction will give you enough money to meet all your financial planning goals and objectives.

Once you have “enough,” isn’t that good enough?

A second reason to exercise and sell immediately is if you are risk averse and cannot handle the volatility of a single stock position.

A single stock position can move severely in a short period of time. As it does, the value of your employee stock options can more even more as illustrated above with leverage.

If you are not comfortable with the big swings, exercising and selling everything right now might be right for you so you can take advantage of a big benefit of that strategy: certainty.

A third reason to exercise and sell would be if you consider the stock to be fairly valued, and you believe it will go down in the future.

While predicting where a stock price will go is difficult and no one can be sure, a strong conviction and the subsequent desire to act upon this may warrant an exercise and sell. This would allow you to capture the current value of the options before it is wiped away by a falling stock price.

What’s Next?

A single exercise and sell strategy is one that strips away the complexity that can potentially inhibit your ability to make a decision. By simplifying the decision-making tree, you may feel more confident about taking action — and you know you’re choosing the strategy that will immediately put real money in your pocket.

This strategy is simple, straightforward, and you know what you are going to get as a result.

For this reason, it’s worth considering starting your decision-making process by comparing your other options to the sell and exercise immediately strategy. Using this as the base case, you can more adequately weight both the benefits and drawbacks of other advanced planning techniques.

What you may find upon careful inspection and comparison is that the bird in the bush isn’t quite as attractive as it might seem.

The content herein is for illustrative purposes only and does not attempt to predict actual results of any particular investment. Diversification does not guarantee a profit or protect against a loss. None of the information in this document should be considered as tax advice. You should consult your tax advisor for information concerning your individual situation. Tax services are not offered through, or supervised by, The Lincoln Investment Companies.

6 Reasons to Exercise Your Incentive Stock Options When the Price Is Down

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No one likes to see a stock they own go down in value. When we buy stock, we hope the price rises so we can earn a profit on our purchase. It’s bad enough, then, when our share prices fall instead.

But what’s potentially even worse? Seeing those falling stock prices — and seeing the value of our incentive stock options (ISO) fall with them.

A falling stock price may compound your loss on the value of your ISO shares due to the inherent leverage associated with incentive stock options. Leverage with stock options means that your value can actually go up and down in value by a greater percentage than the actual change in stock price.  Said another way, it means that the value of your options may go down (as calculated by a percentage) by even more than the decline in percentage decline in the stock price.

That, obviously, is not the outcome you want. But there’s a bit of good news here: if you’re bullish on the long-term value of the stock, a lower stock price may create planning opportunities for you and your incentive stock options.

A lower share price might mean the opportunity to pay less in tax. Or it could save you some money the next time you exercise, requiring less cash out of your pocket to do so. It could allow you to begin your holding period requirements earlier, or to initiate the process of diversification sooner rather than later.

For these reasons, a well-informed investor should take the time to review their financial plan to determine if the best time to exercise options is now, even if the share price is down. If you find yourself in this situation, here’s some of what you need to consider:

1 – Is the Spread Between the Grant Price and the Current Price Still Large?

Even if the current share price of your stock is lower than what it was in the recent past, it’s very possible that the spread between the grant price and the current market price remains large.

A big spread between these two figures may mean exercising your ISOs is still the right action to take.

When you look at the value your incentive stock options, you need to think about two types of value: the current value of your incentive stock options, and the future value of the options.

The current value, or intrinsic value, is simple and is calculated as follows:

Current Value = (Current Market Price – Grant Price) x Number of Shares

Current value is equal to the amount of money you will receive (pre-tax) should you exercise and sell your incentive stock option shares. This is often the value you see when you look at your incentive stock option statement.

A second, more complex value, is the future value of the incentive stock option (or time value).

Future value speaks to what your incentive stock options may be worth in the future should you continue to hold unexercised options. It’s not easy to calculate because no one knows exactly what will happen in the future; while you may think the stock price may double or triple, there’s no way to know for certain.

The Black Scholes Model gives us a way to at least approximate potential future value. This model uses facts such as the risk-free rate, price volatility of the stock, and time to expiration to determine what your future value may be.

Once you get a reasonable estimation of potential future value, you can use this information to determine whether or not you should exercise the shares.

Generally speaking, the greater the current value and the less the future value, the more likely it is that you’ll want to exercise. This may be true even if the price is lower today than what it was at one point in the past.

2 – Will Your Alternative Minimum Tax (AMT) Be Less?

When you exercise and hold incentive stock options, the bargain element (the spread between the grant price and the exercise price multiplied by the number of shares exercised) is a tax preference item for calculating AMT.

A large AMT bill is a common concern for those with substantial stock options — and a big enough worry to stop many people from exercising their shares.

One piece of potentially good news for a falling stock price is a smaller AMT bill (all else being equal). Here’s an example of when this might be the case:

Assume you have 10,000 incentive stock options with a current market price of $50 per share and a grant price of $5 per share. The bargain element if you exercise is:

Bargain Element = (Exercise Price – Grant Price) x Shares Exercised

Bargain Element = ($50 – $5) x 10,000

Bargain Element = $450,000

If we assume a 28% flat AMT, the AMT due is:

AMT Due = $450,000 x 28%

AMT Due = $126,000

Let’s assume however that the stock price has dropped from $50 per share to $40 per share.  The new bargain element and tax is:

Bargain Element = ($40 – $5) x 10,000

Bargain Element = $350,000

Total Tax Due = $350,000 x 28%

Total Tax Due = $98,000

As you can see, a lower stock price means a lower tentative minimum and AMT bill.

To fair, this also means your stock and stock options are worth considerably less because of a falling stock price. But if your plan is to hold the shares after you exercise them, maybe a short-term down stock price is not a big concern at all.

It all depends on your specific financial situation, which is why it’s important to discuss your options with a professional who can guide you to the choice that makes sense given your particular circumstances.

3 – Can You Exercise and Hold More Shares? (This Might Help Avoid AMT!)

One common strategy to exercise incentive stock options is the exercise at year-end up to the AMT crossover point. This strategy attempts to exercise just enough shares in one calendar year to make regular taxable income to equal your tentative taxable income.

The net result is that you owe no AMT — but you were still able to exercise your options.

One factor that impacts how many options you can exercise and hold is the bargain element.  As discussed above, all else being equal, a lower stock price means a smaller bargain element.

As it pertains to the AMT crossover point, this means that a lower stock price actually allows you to exercise more shares at year-end, beginning your holding period for a qualifying disposition, while keeping you below the AMT crossover point.

Exercising more options is likely better than exercising less options should the stock price continue to appreciate in the future.

4 – Do You Plan to Continue the Hold the Stock Anyway?

If you plan to hold your incentive stock option shares after you exercise them, a lower stock price may be a perfect time to exercise. A lower stock price likely means you’ll pay less AMT (as discussed above).

Assuming that you sell the shares in the future for a higher price, exercising at a lower stock price will not mean a greater percentage of the overall final sale will be subject to preferential long-term capital gains treatment (should you meet the qualifying disposition standard), but it does mean that you may not need as much cash to make it work.

Let’s continue our previous example of 10,000 options with a grant price of $5. Let’s assume a final sales price of $100.

If you exercise at $30 per share with the intention to hold the shares, your $95 gain from $5 per share to $100 per share will be taxed as a long-term capital gain (assuming you meet the standard for a qualifying disposition). This may give you a long-term capital gains tax rate of 15%. You also only had to pay AMT on the different between the exercise price of $30 and the grant price of $5.

For comparison, let’s assume that you do not exercise when the stock is down to $30 per share and instead you exercise when the stock price is $80 per share. If you exercise at $80 per share, $75 per share is subject to AMT and the same $95 is subject long-term capital gains treatment.

The net result of a higher exercise price is a greater amount of money that you will need to use to cover the tax bill — and that’s cash that can be otherwise utilized for something else.

So if you want to hold the stock anyway and you want to limit the cost of doing so, exercising when the stock price is lower may be your best bet.

(To be fair, the scenario when you exercise at $80 per share and pay a greater AMT may still be eligible for preferential long-term capital gains treatment if you hold the shares for at least another year and meet the standard for qualifying disposition. If you do, you may be get some or all of your AMT back as a credit. However, the exercise early scenario may be better in the that you’ve paid less cash for AMT at exercise and you are able to sell as a qualifying disposition a year earlier.)

5 – Can You Begin Your Holding Period for a Qualifying Disposition?

One of the great features of incentive stock options is a qualifying disposition. Meeting this standard means that you will pay long-term capital gains treatment on the entire gain from the grant price to the final sales price of your incentive stock options.

This benefit could save you hundreds of thousands in taxes, depending on how many options you have.

The difficult part is that you must hold your incentive stock option shares at least one year past the date you exercise them to obtain this benefit. (This is not the only requirement, so be sure you meet the others, too.)

Often, in an attempt to avoid paying AMT, you may find yourself holding your options as opposed to exercising them. While this does avoid paying AMT, it does not allow you to begin your holding period requirements.

A falling stock price or a lower price might be a great opportunity to exercise and hold your shares, pay less in AMT, and begin your holding period. An early exercise means an earlier date that you can sell your shares, obtain the advantageous tax treatment, and potentially diversify away into something else

6 – Do You Need to Begin the Process of Diversifying Your Assets?

A single concentrated stock position can be a great thing if your stock price continues to appreciate. In fact, a large position of a significantly increasing stock may create more wealth that what you even need to reach your goals and fund the life you want to live.

But there is, of course, absolutely no guarantee this will happen, and hoping it will happen is often too great of a risk to take — because a concentrated stock position can also lead to massive portfolio losses.

In a worst-case scenario, you could be looking at a total loss.

This risk/reward tradeoff of these wildly different outcomes is often more than a single investor and handle, which is why most people should consider a prudent decision to properly diversify their holdings.

But that does not mean the right answer is an immediate sale of your stock options. It also doesn’t mean you continue to hold the stock forever.

What this does mean is that when you diversify, you need to strike a balance between the benefits or goals of generating wealth, minimizing AMT, obtaining a qualifying disposition, and diversifying away assets as soon as possible. The magic is finding the balance that works for you.

A falling stock price may be a great opportunity to combine several of the steps above into a plan that allows you to achieve the diversification goal.

Even with a Falling Stock Price, Now Might Be the Time to Exercise Your ISOs

We all want the value of our stocks and stock options to go up. The more they go up, the greater wealth we can generate.

The problem is, investment growth is never linear. It’s a volatile experience during the day-to-day. When we look back over time, hopefully, we see a line that slowly trended upward in our favor.

Unlike with stocks we purchase outright in our portfolios, there’s a chance to view volatility and a falling share price as a potential opportunity when it comes to incentive stock options.

Instead of locking in on the value of your portfolio being down, a more prudent approach may be to look past the current value and look at the fact that you now have an opportunity on the table that could let you enjoy tax savings and help meet diversification needs.

Should you believe that the trend line of the stock will continue to be up, then exercising when the stock price is down may be your best bet — but keep in mind it takes careful planning and consideration to know the right move.

The content herein is for illustrative purposes only and does not attempt to predict actual results of any particular investment.   Diversification does not guarantee a profit or protect against a loss.  None of the information in this document should be considered as tax advice.  You should consult your tax advisor for information concerning your individual situation.  Tax service are not offered through, or supervised by, The Lincoln Investment Companies.

How to Integrate Employee Stock Options into your Retirement Plan

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Traditional retirement planning is grounded in the belief that if you save early and save often, you’ll accumulate enough wealth to retire with the lifestyle that you want. Many people try to achieve this feat by funneling a percentage of their paycheck into a 401(k) plan.

Unfortunately, this single strategy might not allow you to generate enough annual savings to reach your retirement savings goal.

But there is some good news: there are many other ways to amass the wealth you need to fund the retirement you want. Employee stock options provide one path to explore.

The Basics of Employee Stock Options

Employee stock options are often given as part of a compensation package to employees of a company. Options may allow you to accumulate wealth via a rising stock price.

Here’s how that works in theory: with employee stock options, you can buy shares of your company stock at a pre-determined price. If the current market price of the stock is above the pre-determined price at which you can buy the shares, the stock options are “in-the-money.”

And that means you can earn a profit from exercising and selling your employee stock options.  Profit that may be used to fund a successful retirement plan.

If you combine “in-the-money” stock options with other assets such as a 401(k), investment accounts, or other savings or benefits like income from Social Security and pensions, you could find yourself with enough money to fully fund the exact kind of retirement lifestyle you want.

But a big question remains: how do employee stock options fit into your retirement plan? The answer can get complicated.

To properly incorporate the value of your stock options into your retirement plan, you need to know:

  • How much of your overall wealth is tied up in company stock?
  • What type of options you have?
  • The best choices to make with your options now?
  • Where to place the cash from the sale of any employee stock options?
  • Your primary and secondary goals and objectives?
  • How to minimize the potential tax impact of exercising?

Certainly, this is no easy task. But with a few simple steps, you can begin to coordinate your stock options with your overall retirement plan.

What Considerations Help Make Up a Retirement Plan 

Planning for retirement should begin as early as possible. The sooner you pay attention to the ultimate goal, the sooner you can begin evaluating whether or not you’re on track. If you find you’re not, you need to adjust the goal.

One common metric when tracking retirement potential is setting an arbitrary savings goal that you feel will allow you to retire once you reach it. It’s what happens when you say things like, “Once my investment portfolio reaches$1,000,000, or $2,000,000, or [enter your favorite number here], I will have enough retire. “

Sound familiar? Many people think about their retirement goals this way. But while that might give you something to shoot for, it’s not enough to build a solid plan around.

You can easily argue that having more money is better than having less money when it comes to retirement. But having more money doesn’t really answer the question of whether you have enough money to retire. At best, you’ve reached an arbitrary number that likely doesn’t address fundamental retirement planning questions like:

  • How much money do I need to live on each year?
  • What if I live longer than I expected?
  • What will inflation look like?
  • What about taxes?

This arbitrary number gets even more complicated when a significant percentage of your net worth is made up of employee stock options or other employer equity. As we touched on, options can be a way to grow the wealth you need to fund a retirement plan. Still, you need to be careful and manage your risk of overexposure.

To do that, you need to understand your retirement timeline.

Consider Your Timeline to Retirement

Most generally accepted investment strategies point to the fact that owning a single stock is riskier than holding many stocks. Risky, in this sense, means subject to greater market volatility.

Holding a significant percentage of your net worth in a single stock increases the likelihood that you will be exposed to market volatility. The net result of single stock volatility may be big swings the value of your stock options.

For example, say you set your arbitrary savings goal at $2,000,000 — and the day comes when your assets reach that $2,000,000 goal.

But what if the entire $2,000,000 is made up of a single stock position? And what if shortly after reaching your $2,000,000 goal, that stock price drops 50% and the value of your options plummets from $2,000,000 to $1,000,000? How would this make you feel?

The answer might depend on how near or far you are from retirement.

If you are many years from retirement, employed, otherwise well-off, or willing to take investment risk, this severe drop in value may be a non-issue. In fact, an opportunist might suggest the drop-in price is nothing more than an opportunity to buy shares on sale.

But what if this market volatility occurs in the years leading up to retirement? Or worse, right after you retire?

A significant drop in the stock price may mean a significant change in when you retire or how much you can spend in retirement. Let’s explore the impact using a simple example:

One retirement rule of thumbs says that you can withdrawal between 3-5% of your assets in retirement. If true, it’s reasonable to assume that someone with $2,000,000 can make withdrawals between $60,000-$100,000 per year from their account in retirement.

If the market value of the stock options drops to $1,000,000, the same 3-5% withdrawal rule decreases your expected income to $30,000-$50,000.

This potential drop in stock price negatively impacts the value of your assets and, therefore, your potential retirement income. That’s why considering your timeline for retirement is so important.

If you’re concerned about such a severe drop in the value of your options, it may be time to consider a reallocation. If you find yourself in retirement without having pre reallocated your stock options, the decrease in stock price may mean a necessary but significant reduction in annual retirement spending.

Consider Taxes and the Type of Employee Stock Options You Have

There are three items commonly discussed when considering how employee stock options fit into a retirement plan.

  1. Taxes
  2. Financial planning
  3. Investment risk tolerance

While I can easily argue that all three should be equally considered, much of the conversation tends to center around tax planning.

How your employee stock options are taxed is complicated, and also important. In fact, how your employee stock options are taxed may have a material impact on the money you have available for retirement.

When it comes to taxes and stock options, you need to know if you have non-qualified stock options or incentive stock options.

Non-qualified stock option gains are taxed as ordinary income when exercised.  The gain from your non-qualified stock option looks very similar to your regular taxable wage.

Incentive stock option gain is significantly more complicated as it may be taxed as ordinary income – but may also be taxed at preferential long-term capital gains, depending on when your exercise your incentive stock options and when you sell them.  Incentive stock options are also potentially subject to the alternative minimum tax.

While the details of this conversation are beyond this article, the after-tax value after exercising and selling either non-qualified or incentive stock option shares may make a considerable difference in the spendable value of your nest egg in the future. Make sure you take taxes into account as you build out your retirement plan if you plan to leverage employee stock options as part of it.

Plan for Employee Stock Options Beyond Your Retirement Date

Retirement planning doesn’t end once you retire. It’s an ongoing process that you’ll continue to undertake even as you begin to enjoy your life after your career.

And when you have employee stock options, an important planning question that will come up as you prepare to make the transition is what happens to unvested and/or unexercised shares at retirement?

Will your unvested shares be forfeited when you retire? If so, are you sure you have not included the value of your unvested shares in your retirement calculations?

For example, what if you have stock options with a current value of $2,000,000.  But what if $500,000 of this value is “in-the-money” but unvested stock options?  At retirement, it’s possible you could forfeit $500,000 of value. Have you considered the impact on your retirement $500,000 of this value disappears due to the forfeiting of $500,000 of unvested value?  You should also take notice of your unexercised incentive stock options

Incentive stock options often need to be exercised within three months of termination (or in this case, retirement) to retain its status as an incentive stock option. If you are required to exercise these shares, the cost to do so may be expensive.  The simple math is the fair market value of the shares at exercise multiplied by the exercise price of the option.  Can you afford the cost of exercising and holding the options?  Or will you need to do a cashless exercise?  A cashless exercise is a strategy that requires no out of pocket cash to exercise.  Instead, some of the exercised shares are immediately sold to cover the cost of the other shares.

The exercise of incentive stock options can also impact your alternative minimum tax bill the following April?  The spread between the grant price and the exercise price (multiplied by the number of shares exercised) is a preference item for AMT calculations.  A large bargain element may mean a significant tax bill.

Finally, is exercising and holding more shares, furthering increasing your single stock position, something you should be doing as you enter retirement?

Further strategic planning for stock options may consider calendar years in retirement when taxable income is lower. Lower tax years can create opportunities to exercise and/or sell shares in a way that minimizes the taxes you owe.

In fact, strategically selling the “right” stock options may have a materially different tax implication.  For example, exercised and held incentive stock options have a “dual basis.”  One basis for regular tax and one basis for the alternative minimum tax.  If you have multiple tranches of exercised and held stock options, it’s very likely the spread between each one is different.  Incentive stock with a greater spread may be more advantageous to sell in an effort to accelerate alternative minimum tax credits, leading to a potentially smaller tax bill.

Ultimately, spreading the tax hit can be a good thing. But you also need to balance your tax obligations with the fact that waiting to sell your shares leaves you in the potentially unenviable position of retaining a concentrated equity position.

How to Think About Employee Stock Options and Retirement Planning

Employee stock options can be great.  But retirement planning may warrant additional thinking.

In your working and saving years, it could be reasonable to assume some degree of overexposure risk in exchange for the opportunity to generate wealth through stock options.

This makes the most sense when you’re employable, earning a working wage, and/or willing to accept the risk. During this accumulation stage of life, stock options, even concentrated equity, can be a positive thing as you are not dependent upon this wealth to live your life.

Retirement often comes with a change in thinking, primarily driven by the need to switch from accumulation of wealth (saving) to decumulation of wealth (spending). In the decumulation stage of life, wealth generation (concentrated equity) may take a back to seat to ideas such as asset allocation and diversification.

Furthermore, investment risk tolerance may change in retirement, leading to a desire to decrease expected volatility from the portfolio to make room for stable income generation.

To start thinking about retirement planning and stock options strategically, you’ll want to ask and answer questions such as:

  • How do you know when it’s the right time to sell your stock options?
  • How do you know if (or when) it’s okay to hold stock options in retirement?
  • If you do sell employee stock options, what should you do with the cash?
  • How do you actually get money from your investment portfolio and accounts to fund your retirement?
  • What are the tax implications and ramifications of selling employee stock options?

While there is no perfect answer for the when, the how, and the time to transition from accumulation to decumulation, there are conversations that should be held in regards to risk profile, income needs, retirement expectations, and total wealth goals.

These conversations can be combined with tax planning, investment planning, and estate planning to produce a plan for your stock options in retirement.

Are you feeling overwhelmed? That’s reasonable, as this is complicated, complex planning. So one final question to consider asking might be this one: when is it time to reach out to a professional financial planner to seek help? If you are curious about learning more, start here.

Tax services are not offered through or supervised by Lincoln Investment, or Capital Analysts. None of the information in this document should be considered as tax advice.  You should consult your tax advisor for information concerning your individual situation.

Asset allocation or diversification does not guarantee a profit or protect against a loss.

Volatility is a statistical measure of the dispersion of returns for a given security or market index. Volatility can either be measured by using the standard deviation or variance between returns from that same security or market index.

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