What Happens to Equity When an Employee Leaves a Startup?

When an employee leaves a startup, their unvested equity is forfeited back to the company's option pool. Vested but unexercised stock options must typically be exercised within 90 days of the termination date, or they expire worthless. Shares that have already been purchased through early exercise or prior option exercise are generally retained by the departing employee, subject to any repurchase rights the company holds over unvested shares.

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Vested vs. Unvested: The Fundamental Split

The first question on departure is always: what's vested?

Standard startup vesting is four years with a one-year cliff. If an employee leaves after 2.5 years, 62.5% of their equity is vested and 37.5% is unvested.

What Happens to Unvested Equity

Unvested equity is forfeited. Full stop. For stock options, the unvested portion of the grant simply expires. For restricted stock (shares purchased subject to vesting), the company exercises its repurchase right to buy back unvested shares at the original purchase price (typically the 409A fair market value at the time of grant, which for early-stage companies is often fractions of a penny per share).

Forfeited equity returns to the company's option pool, where it can be re-granted to future employees. This is a feature, not a bug — it ensures that equity compensation is earned through continued service.

What Happens to Vested Equity

Vested equity is where things get complicated, and the treatment depends on the type of equity:

Vested stock options (unexercised): The employee has the right to exercise — to purchase shares at the exercise (strike) price — but hasn't done so yet. The post-termination exercise period (PTEP) determines how long this right survives after departure.

Vested and exercised shares: The employee already purchased the shares. They own them. Subject to transfer restrictions and the company's right of first refusal, these shares stay with the departing employee.

Restricted stock (early exercise or founder stock): If the employee purchased shares subject to vesting and the company has a repurchase right, vested shares are no longer subject to repurchase. Unvested shares are repurchased at cost.

The 90-Day Post-Termination Exercise Period

The standard PTEP for stock options is 90 days from the date of termination. This means:

• Day 1 after departure: the clock starts ticking
• Day 90: if the employee hasn't exercised their vested options, they expire worthless
• No extensions, no exceptions (unless the plan provides for them)

Why 90 Days Is Brutal

The 90-day window creates an excruciating decision for departing employees, especially at later-stage companies where the exercise cost is significant.

Example: An employee has 50,000 vested ISOs with a $2.00 strike price. Exercising costs $100,000 in cash — money the employee may not have, for shares in a private company with no guaranteed liquidity. If the company's current 409A valuation is $10.00/share, the spread is $400,000. For ISOs, exercising triggers no ordinary income tax (but may trigger AMT). For NSOs, the $400,000 spread is immediately taxable as ordinary income.

The employee faces a choice: spend $100,000+ (plus potential tax liability) on illiquid shares of a private company, or walk away from equity that could be worth millions at exit — or nothing.

The ISO Tax Trap

This is particularly painful for ISO holders. Under tax law, if ISOs are not exercised within 90 days of termination, they automatically convert to non-qualified stock options (NSOs). NSOs are taxed as ordinary income on the spread at exercise, rather than receiving the favorable capital gains treatment that ISOs provide (assuming the shares are held for the required periods).

This means an employee who negotiates a longer PTEP still loses the ISO tax benefit after 90 days. It's a structural limitation of the Internal Revenue Code, not the company's option plan. Understanding this interaction is crucial — see our 83(b) election guide for related tax planning strategies.

The Extended PTEP Trend

Recognizing the harshness of the 90-day window, many companies — particularly those influenced by the ethos of founders like Sam Altman and companies like Coinbase, Pinterest, and Asana — have moved to extended PTEPs.

Common Extended PTEP Structures

• 1 year: A meaningful improvement that gives employees time to evaluate and plan
• 5 years: Becoming increasingly common at later-stage companies
• 7–10 years: Effectively the full option term (options typically expire 10 years from grant), making the PTEP nearly a non-issue
• Post-IPO exercise: Some companies allow exercise only after an IPO or liquidity event, eliminating the cash outlay problem entirely

Arguments For Extended PTEPs

• Fairness: Employees who contributed to the company's growth shouldn't lose their equity because they can't afford to exercise
• Recruiting: Extended PTEPs are a competitive advantage in hiring, especially for senior talent evaluating multiple offers
• Reduced golden handcuffs: Employees stay because they want to, not because they can't afford to leave. This improves organizational health.

Arguments Against (The Investor/Company Perspective)

• Option pool recycling: When departing employees keep options outstanding for years, those shares aren't returned to the pool for re-granting. This creates option pool pressure and may require earlier dilutive pool expansions.
• Cap table complexity: More outstanding option holders means more names on the cap table, more people to notify of corporate actions, and more signatures needed at exit.
• ISO conversion: As noted, ISOs convert to NSOs after 90 days regardless — so the tax benefit of ISOs is lost with extended PTEPs. Some argue this makes the extended PTEP less valuable than it appears.
• 409A complications: Outstanding options factor into 409A valuations. More outstanding options can affect the valuation methodology.

The Practical Compromise

Many companies offer a tiered approach: standard 90-day PTEP for all employees, with the board retaining discretion to extend the PTEP for specific individuals (typically senior leaders or long-tenured employees) on a case-by-case basis at termination. This preserves flexibility while avoiding the cap table and pool management challenges of a blanket extended PTEP.

Repurchase Rights on Exercised Shares

When an employee exercises options (or purchases restricted stock), the company typically retains certain rights over those shares:

Right of First Refusal (ROFR)

Most startup equity agreements include a ROFR that gives the company (and sometimes existing investors) the right to purchase shares before the employee can sell them to a third party. This persists until an IPO and is standard and non-negotiable.

Repurchase Right on Unvested Shares (Early Exercise)

If the employee early-exercised their options (purchasing unvested shares, typically to start the capital gains holding period and file an 83(b) election), the company has a repurchase right on the unvested portion at the original exercise price. On departure, the company buys back unvested shares at cost.

Repurchase Right on Vested Shares

Some companies — particularly pre-Series A — retain a repurchase right on vested shares as well, typically at fair market value. This is less common and more aggressive. If your equity agreement includes a vested share repurchase right, understand the trigger conditions and valuation methodology. At venture-backed companies with institutional investors, vested share repurchase rights are unusual because investors want a clean cap table and straightforward ownership.

What Happens to RSUs

Restricted stock units (RSUs) are less common at early-stage startups but increasingly used at later stages. The treatment on departure is simpler than options:

• Unvested RSUs: Forfeited. They disappear.
• Vested but unsettled RSUs: In a public company, vested RSUs settle (convert to shares) automatically. In a private company, RSUs often have a "double trigger" — they vest based on time and require a liquidity event (IPO, acquisition, or tender offer) to settle. If the employee leaves before the liquidity event, vested RSUs may be forfeited depending on plan terms.

The double-trigger trap: Some private company RSU plans provide that even vested RSUs expire if the employee leaves before a liquidity event. This means an employee who leaves a late-stage private company after four years of service could forfeit 100% of their RSUs. Read the plan documents carefully.

Other plans allow vested RSUs to remain outstanding through the liquidity event and settle at that time, even if the employee has departed. The variation between plans is significant — there is no single "standard" approach for private company RSUs.

Termination for Cause

Most equity plans and option agreements distinguish between voluntary resignation, termination without cause, and termination for cause. The consequences differ:

Voluntary Resignation / Termination Without Cause

Standard treatment: unvested equity forfeited, vested options subject to the PTEP, exercised shares retained.

Termination for Cause

"Cause" termination provisions can be significantly harsher:

• Accelerated option expiration: Some plans reduce the PTEP to zero for cause terminations, meaning vested options expire immediately upon termination — the employee gets no exercise window at all.
• Clawback of exercised shares: In extreme cases, some agreements include provisions allowing the company to repurchase even vested, exercised shares at the lower of fair market value or cost. This is a penalty provision.
• Forfeiture of proceeds: Some plans provide that if an employee is terminated for cause after exercising, the company can recapture any profits from a subsequent sale of those shares.

What "cause" means: The definition varies, but typically includes: material breach of the employment agreement or company policies, fraud, embezzlement, conviction of a felony, willful misconduct, or material failure to perform duties. Review the definition carefully — an overly broad "cause" definition gives the company too much discretion.

These provisions interact with employment agreements and should be reviewed holistically.

Acceleration on Termination

Acceleration provisions speed up vesting upon certain events. The two relevant scenarios:

Single-Trigger Acceleration

Vesting accelerates upon a single event — typically a change of control (acquisition). If an employee has single-trigger acceleration and the company is acquired, all (or a portion) of their unvested equity vests immediately, regardless of whether they continue employment.

Who gets it: Rare for rank-and-file employees. Sometimes granted to founders or C-suite executives.

Investor perspective: Investors generally dislike single-trigger acceleration because it removes the incentive for key employees to stay post-acquisition, which reduces the acquisition price.

Double-Trigger Acceleration

Vesting accelerates only if both (a) a change of control occurs and (b) the employee is terminated without cause (or resigns for "good reason") within a specified window (typically 12–18 months) after the acquisition.

Who gets it: More common than single-trigger. Often provided to VP-level and above, and increasingly to all employees at founder-friendly companies.

Why it's important: Without double-trigger acceleration, an acquirer can terminate employees shortly after closing to recapture unvested equity. Double-trigger protects employees from this scenario.

The "good reason" definition matters: Good reason typically includes material reduction in compensation, title, or responsibilities; relocation beyond a specified distance; or material breach of the employment agreement by the company. A narrow good reason definition limits the employee's ability to trigger acceleration by resigning.

Tax Implications of Exercise Timing

The decision of when to exercise has significant tax consequences that are especially acute around termination:

ISOs: The 90-Day Conversion Issue

As noted above, ISOs not exercised within 90 days of termination convert to NSOs. The tax difference is material:

• ISO treatment: No ordinary income tax at exercise (AMT may apply). If shares are held for 1+ year after exercise and 2+ years after grant, the entire gain is taxed at long-term capital gains rates (currently 20% + 3.8% NIIT maximum).
• NSO treatment: The spread at exercise is taxed as ordinary income (up to 37% federal + state). Only subsequent appreciation above the exercise date FMV gets capital gains treatment.

For an employee with significant vested ISOs, exercising before termination (while still employed) preserves ISO treatment. This requires cash and risk tolerance, but the tax savings can be substantial.

Early Exercise and 83(b) Elections

Employees who early-exercised and filed an 83(b) election have already started their capital gains holding period. On departure:

• Vested shares: held outright, capital gains clock running from the 83(b) election date
• Unvested shares: repurchased by the company at cost, with no tax consequence (the 83(b) election means tax was already paid/assessed on the full grant)

This is one of the primary advantages of early exercise + 83(b) — the departure scenario is clean. No 90-day exercise deadline, no cash crunch, no ISO conversion issue.

QSBS Considerations

For equity that may qualify for Section 1202 QSBS treatment (potential 100% exclusion of federal capital gains up to $10M or 10x basis), the holding period requirement is 5 years from the date of acquisition of the shares. Exercising options starts the clock; merely holding options does not. Departing employees who want QSBS treatment must exercise before leaving (or within the PTEP) and then hold for 5+ years.

Practical Advice for Departing Employees

1. Know your numbers. Before giving notice, understand exactly how many shares are vested, the exercise price, the current 409A valuation, the total exercise cost, and the estimated tax impact. Your HR team or equity management platform (Carta, Pulley, AngelList) should have this information.

2. Exercise before you leave if you can. Exercising while employed preserves ISO treatment and removes the PTEP pressure. If you can afford the exercise cost and believe in the company's trajectory, this is usually the optimal move.

3. Calendar the PTEP deadline. The 90-day (or extended) deadline is hard. Miss it by one day and your options are gone. Set multiple reminders.

4. Understand the tax bill. For NSOs, exercise triggers immediate income tax. For ISOs, exercise triggers potential AMT. Model the tax impact before exercising — an unexpected five- or six-figure tax bill on illiquid shares is a painful surprise.

5. Consider partial exercise. If you can't afford to exercise everything, exercise the portion you can afford, prioritizing shares with the lowest exercise prices or strongest QSBS potential.

6. Ask about secondary sales. Some later-stage companies facilitate secondary transactions (selling shares to other investors). If the company has a secondary program, this can provide liquidity to fund your exercise.

7. Get legal and tax advice. The interaction between option type (ISO/NSO), exercise timing, AMT, QSBS, and state taxes is complex enough that professional advice is almost always worth the cost.

Practical Advice for Founders and Companies

1. Communicate clearly. When an employee gives notice, proactively communicate their equity situation: vested shares, unvested shares, exercise deadline, and exercise cost. Don't make them hunt for this information.

2. Consider extending the PTEP for valued departing employees. Even if your standard policy is 90 days, the board can often extend the PTEP for specific individuals. This is a low-cost gesture that builds goodwill and a positive alumni network.

3. Process repurchases promptly. If the company is repurchasing unvested early-exercise shares, process the repurchase and payment quickly. Delays create uncertainty and legal risk.

4. Document everything. The termination letter or separation agreement should clearly state the last day of employment (which starts the PTEP clock), the number of vested and unvested shares, and the exercise deadline.

5. Review acceleration provisions. Before any termination, review the employee's equity agreements for acceleration triggers. Terminating an employee with double-trigger acceleration within 12 months of an acquisition could trigger full acceleration — which may or may not be the desired outcome.

6. Maintain your cap table. Promptly update your cap table to reflect forfeitures, repurchases, and exercises. Stale cap tables create confusion during future fundraising and due diligence.

Conclusion

Equity on departure is one of the most consequential and least understood aspects of startup compensation. The interaction between vesting schedules, exercise periods, tax law, and plan-specific provisions creates a decision matrix that can mean the difference between hundreds of thousands of dollars retained or forfeited. Whether you're a founder designing your equity plan or an employee evaluating a departure, understanding these mechanics isn't optional — it's the difference between making an informed decision and leaving money on the table.