Stock Options vs Restricted Stock vs RSUs at a Startup
A stock option is a right to buy shares later at a fixed strike price, so you own nothing until you pay to exercise. Restricted stock is actual shares, owned now and subject to vesting. An RSU is a promise of shares delivered on vesting. They differ mainly in when tax applies and what cash you need.
Four instruments, one word
Offer letters call all of these equity. Mechanically they are different contracts.
Incentive stock options (ISOs) are options that meet the US Internal Revenue Code requirements in section 422. Only employees can receive them. They can carry favourable tax treatment if holding rules are met.
Non-qualified stock options (NSOs) are every other option. Anyone can receive them, and an option that fails an ISO rule becomes one.
Restricted stock, often called a restricted stock award, is shares issued now, usually purchased at fair market value, with a company right to repurchase unvested shares if you leave. Founders almost always hold this form.
Restricted stock units (RSUs) are an unfunded promise to deliver shares, or sometimes cash, once vesting conditions are met.
Tax and the 83(b) election
This is US federal tax law in general terms. It is informational, not tax or legal advice, and the right answer depends on personal facts, so take advice before exercising, electing, or signing.
Restricted stock. By default, each tranche is taxed as ordinary income when it vests, on its value at that time. An 83(b) election moves the tax event to the grant date instead. If you paid full fair market value, the taxable amount at grant is zero and all later growth can be capital gain. The election must reach the IRS within 30 days of the grant. Since July 2025 it can be filed online using IRS Form 15620, and a copy still goes to the company. A missed deadline cannot be fixed.
ISOs. No regular income tax at grant or exercise. Hold the shares more than two years from grant and one year from exercise, and the gain on sale is long term capital gain. The catch: the spread at exercise counts for alternative minimum tax, which can produce a real tax bill on shares you cannot sell. Only 100,000 dollars of ISOs, measured by grant date value, can first become exercisable in any calendar year; the excess is treated as NSOs.
NSOs. The spread between strike and fair market value at exercise is ordinary income, with withholding for employees. Later growth is capital gain.
RSUs. No 83(b) election is available. Value is ordinary income at settlement. Private companies commonly use double trigger RSUs, which settle only after time vesting and a liquidity event, so employees are not taxed on shares they cannot sell.
Early exercise turns options into restricted stock
Some plans allow exercise before vesting. The shares received are restricted stock, and an 83(b) election within 30 days can lock in a zero spread. The cash paid is at risk if the company fails.
Which instrument fits which stage
Formation and pre-seed. Founders and the first hires take restricted stock because the fair market value is a fraction of a cent, purchase cost is trivial, and an 83(b) election costs almost nothing.
Seed through growth. Once a 409A valuation puts a meaningful price on common stock, buying shares outright becomes expensive. Options take over: the employee pays nothing at grant and decides later whether to exercise.
Late stage and pre-IPO. When strike prices are high, companies shift to RSUs, which deliver value without a purchase price.
One further consequence: the QSBS holding period under section 1202 begins when you hold actual stock. For stock issued after 4 July 2025, the One Big Beautiful Bill Act allows a 50 percent exclusion after three years, 75 percent after four, and 100 percent after five, with a per-issuer cap of 15 million dollars. An unexercised option has not started that clock.
| ISO | NSO | Restricted stock | RSU | |
|---|---|---|---|---|
| What you hold | Right to buy shares | Right to buy shares | Actual shares, unvested | Promise of future shares |
| Who can receive | Employees only | Anyone | Anyone | Anyone |
| Cash needed | Strike price at exercise | Strike price plus tax at exercise | Purchase price at grant | None, but tax at settlement |
| Main tax event | Sale; AMT possible at exercise | Exercise, as ordinary income | Vesting, or grant with 83(b) | Settlement, as ordinary income |
| 83(b) available | Only with early exercise | Only with early exercise | Yes, within 30 days | No |
| Typical stage | Seed to growth | Seed to growth, non-employees | Formation, founders | Late stage, public |
Frequently asked questions
- Are stock options the same as equity?
- Not yet. A stock option is a contract giving the right to buy shares at a fixed strike price. Until you exercise and pay that price, you own no shares, cannot vote, and receive nothing if the option expires. Restricted stock is equity from the day it is issued, subject to vesting. RSUs become equity when they settle. All three are called equity in offer letters.
- Can you file an 83(b) election for RSUs?
- No. An 83(b) election applies to property transferred subject to vesting, and an RSU transfers no shares until settlement. Tax on RSUs is generally ordinary income on the value at settlement. An 83(b) election is available for restricted stock and for shares acquired by early exercising options, and it must reach the IRS within 30 days. This is general information, not tax advice.
- What is the difference between an ISO and an NSO?
- An ISO meets the section 422 requirements, can only go to employees, and is not subject to regular income tax at exercise, though the spread counts for alternative minimum tax. Meeting the holding periods makes the gain long term capital gain. An NSO is taxed as ordinary income on the spread at exercise and can be granted to advisors, contractors, and directors.
- Why do late stage startups switch to RSUs?
- Because the share price has grown. Options with a high strike are worth less at grant and expensive to exercise, and restricted stock would need to be purchased at a high price or taxed as income. RSUs deliver shares with no purchase price. Private companies usually make them double trigger, settling only after a liquidity event, so employees are not taxed on illiquid shares.