The Differences Between Employee Stock Purchase Plans (ESPP)

The Differences Between Employee Stock Purchase Plans (ESPP)

October 27, 2022

With the new employment market of “soft quitting” and rapid turnover, both employers and employees are looking for reasons to take a job and keep it. One of the things an employer can use to make a job more attractive to prospective employees is a stock purchase plan or a stock option plan.

These two types of stock purchasing plans are a little different from the employee’s perspective. From an employer’s view, they differ only in how they need to be set up.

Stock Purchase Plans

An employee stock purchase plan (ESPP) allows the employee to purchase stock via payroll deductions. Typically, employees become eligible under the company’s purchase plan, such as after a certain period of employment or reaching a level of seniority.

ESPPs usually have limits on the amount of stock that can be purchased in each pay period based on the plan structure, the employee’s chosen payroll deduction, and the stock price on the purchase date.

An ESPP usually has offering and purchase periods, and the employee can access the money in the stock after the vesting period, typically two to three years after purchase. With an ESPP, the employee is being given the opportunity to participate in the company’s profit during their employment

Stock Options

Stock options are usually a form of additional compensation. A stock option is not purchased by the employee, but is given to them as an additional benefit or compensation beyond their regular pay.

Stock options will not vest until after the employee leaves the company. At that point, the company “buys back” the stock for the total value of the stock at that time, and gives the employee the value in a lump sum or in regular installment payments.

With a stock option plan, the employee does not benefit from the stock value until after their employment ends.

Things to Consider in a Stock Purchase Plan

Companies usually have ESPPs and stock option plans when the company is looking to hire and retain employees. Stock plans also help foster a sense of ownership within the corporate culture by giving employees a personal stake in the company profits.

There are two types of ESPPs, qualified, which must be approved by the shareholders and require equity among all shareholders in the plan, and non-qualified. Non-qualified plans are not subject to as many restrictions, but lack the tax breaks available to qualified plans.

Employers who decide to offer employees ESPPs, whether qualified or non-qualified, should consult their attorneys or legal departments when making the offer in an employment letter. The participation and tax restrictions for ESPPs are complicated, and employees must have access to all plan documents and prospecti before joining.

By the same token, employees who are considering an ESPP buy-in should have their paperwork reviewed by an attorney before signing anything stock or payroll related. In an ESPP, the stock purchase price should come out of your payroll after taxes, and the amount may increase as your time with the company lengthens.

All this should be explained clearly in the terms of your offer letter or in the terms of the ESPP documentation.

Terms for stock options as awards or benefits should explain how the options are to be given, and when the vesting period ends.

At Hammer Law PLLC, we specialize in helping employers and employees find and retain the best employment. This includes compensation and benefit packages. Whether you need your offer letters reviewed or your compensation packages vetted, we can ensure you are getting what you were promised.

Contact us on our website for an appointment and consultation. We are here to help.

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