Strike Price

What it means

A stock option gives you the right to buy company shares at a specific price, known as the strike price. This price is locked in on the day your company gives you the options, which is called the grant date.

For private companies, this price is usually set to match the current fair market value (FMV), which is the estimated price the stock would sell for on the open market. This value is determined by an official process called a 409A Valuation.

A simple example

Imagine Sarah gets an option to buy 100 shares of her company at a strike price of $5. A year later, the company's value grows and the shares are worth $15 each. Sarah decides to exercise (buy) her 100 shares. She pays the company $500 (100 shares times $5). Since the shares are actually worth $1,500, she has made a $1,000 profit, which is called the spread.

Why it matters to you

• A lower strike price gives you a bigger potential profit when the stock value goes up.
• The difference between your strike price and the market price counts as income, which is subject to tax.
• Exercising your options requires you to have the cash on hand to pay for the shares at the strike price.

Common mistakes to avoid

• Forgetting that you must pay taxes on the spread even if you do not sell the stock immediately.
• Assuming the strike price will always be lower than the current stock price, as the stock value can sometimes drop below your strike price.
• Not talking to a tax professional to understand how your specific tax situation might change when you exercise.

Words used on this page

• Strike Price: The fixed price per share you pay to buy stock through an option.
• Exercise: The act of buying the shares offered by your stock options.
• Grant Date: The day your company officially gives you the stock options.
• Fair Market Value (FMV): The price a buyer would pay for a share of stock in the current market.
• Spread: The difference between what you pay for the stock and what it is actually worth.