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What To Do With Underwater Stock Options?

My wife has a whole mess of underwater options with her company, issued before the economy took a nosedive, and was looking to see what her options (ha ha) were. She’ll be leaving her company in early July, to pursue graduate school in her field, and so she’ll only have sixty days after her last day to exercise the options. For the shares that are profitable, it’s a no brainer: exercise and sell. But what can she do with the rest?

She searched the internet for advice on what she could do, fully anticipating the answer was “nothing.” Then she stumbled onto a site that said she could exercise them and use the loss to offset some tax gains. She didn’t understand why that made any sense and so she asked me. I didn’t know why that made any sense either. Since she didn’t remember where she read it, we can’t be sure the advice was serious.

I don’t think exercising underwater options make any sense. If you have $100 in capital gains, you would pay $25 in taxes (assuming 25% tax bracket); leaving you with $75 in your pocket. If you were to exercise the options and have enough loss to offset the $100 in capital gains, you would have $0 in your pocket as you took the $100 loss. Sure, the tax man gets $0, but you get $0. I prefer the scenario in which the tax guy gets $25 and I get $75 any day. If you really want the shares of stock, buy them for less on the open market. If you really want to lose money, just send it to me!

This also underscores one important rule: don’t trust everything you read and interpret it for yourself. That includes anything you read here. I have been, on more than one occasion, been wrong and, as long as I’m writing, I’ll probably be wrong again in the future. Heck, just the other day I wrote about rain barrels [3] and did not include a warning that watering vegetables with roof runoff could be potentially dangerous!

Is there any logic to exercising underwater options?

(Photo: nikonvscanon [4])