When are stock options taxed?

Stock option taxes are not tied to a single moment. Grant, vesting, exercise, and sale each play different roles — and understanding that sequence is the key to understanding when taxes are actually created.

Most stock-option mistakes happen because people assume taxes show up only when shares are sold. In reality, tax liability is often created earlier, sometimes before any cash is available.

Start with the timeline

Use this framework:

Grant -> Vest -> Exercise -> Sale

Each step answers a different question:

When do I have a right?
When do I have ownership?
When does income show up?
When do gains or losses show up?

Grant: usually not a tax event

Grant is when the company gives you the option and sets the terms (strike price, vesting schedule, expiration).

You typically do not own shares at grant — you have a right to buy them later. Because there is no ownership yet, grant is usually not a tax event by itself.

Vesting - usually not the tax event for options:

Vesting is when you earn the right to exercise your options.

For stock options, vesting is usually an employment milestone, not a tax moment.

(This differs from restricted stock units, where vesting is often taxable — which is why mixing equity types causes confusion.)

Exercise: the most common tax trigger

Exercise is when you pay the strike price and buy shares. This is the point where you go from a right to buy stock to actually owning stock.

For many stock option situations, exercise is the primary tax trigger.

ISO vs NSO treatment:

NSOs:
Exercise commonly creates ordinary income (compensation-style income), even if you do not sell shares.
ISOs:
Exercise may avoid ordinary income under the regular tax system, but AMT can still apply.

(See NSOs or ISOs for instrument-specific details.)

Sale: where capital gains or losses typically shows up

Sale is when you sell shares you already own.

Sale is typically where capital gains or losses appear — meaning the change in value after you became a shareholder.

Holding periods can affect how gains are treated, but the core point is simple:

You cannot sell stock until you own stock and with options, you usually do not own stock until you exercise.

Ordinary income vs capital gains:

Nearly all stock-option tax outcomes fall into one of two categories:

Ordinary income
The compensation bucket (same broad category as wages)
Capital gains / losses
The ownership bucket (gain or loss when you sell an asset)

Exercise can create ordinary income because the tax system may treat part of that event like compensation.
Once you own shares, sale is where capital gains or losses typically show up on what changed after ownership began.

AMT and stock options:

AMT (Alternative Minimum Tax) is a parallel tax system with its own rules. It matters here primarily because of ISOs.

Key takeaway:
“No ordinary income under the regular tax system at exercise” is not the same thing as “no tax impact at exercise.”

This distinction is critical and often misunderstood.

Early exercise and 83(b):

Early exercise occurs when a plan allows you to exercise options before they are fully vested, resulting in shares that are still subject to vesting or repurchase.

This is one of the limited situations where an 83(b) election may be available.

Important boundaries:

83(b) applies only in early-exercise situations
It does not apply to typical option exercise or sale timing
It involves a short, strict filing deadline

(See 83(b) Explained for details.)

Common questions:

Are stock options taxed when they vest?

Usually not. For stock options, vesting is typically not the tax event. Exercise and sale are usually where taxes matter.