Stock options in the company. A good or bad idea?

[87tweetybirds]

The company with which I am currently employed just announced that this fall when we are able to renew our benefits as a new benefit there will be an option to buy stock in the company at a "discounted rate" with more detail to be announced further down the road. Would it be a good idea or a bad idea to invest in stock from my company.
A little about the company. I work at a hospital which is one of many hospitals owned by a corporation of hospitals. It is in the whole corporation that I have the option of investing.
On the one hand I know that a good portfolio is a diversified portfolio, and if I opt to buy I wouldn't only buy company stock, but of course be investing in my 401k as well as other savings options I am currently involved in. But would investing in another stock be a bad idea? This is kind of new territory for me. Thanks

[kkbmustang]

It depends on the terms. If it's through an Employee Stock Purchase Plan, shares are usually offered at 15 percent below FMV and are tax advantaged. This is an amazing deal and you should consider it seriously. The selling restrictions should be minimal unless you are in upper management with mandatory blackout periods. If they are incentive stock options or no qualified stock options, those require a Grant by the company -- you can't just buy them. I get the plan they are offering is the ESPP. These plans are a hidden gold mine. Sometimes they come with matching contributions as well. Buy the max and sell when you can if you're concerned about diversification. IMHO.

[MDM]

^ Exactly what kkbmustang says. 

It will depend on the "more detail to be announced", but these plans are often as close to "free money" as you will ever get. 

Having the spare cash available to make the purchase can be a barrier to some, but if you are mustachian enough in managing your cash flow it is likely doable.

[MayDay]

My old one had a good discount but you had to hold it 2 years. So a decent chance you could lose money, plus you are over-invested in the company while you are holding all that stock. I did a small amount but I was cautious.

H's current one is a good discount and you can sell immediately, so we invest the max, 15% of salary. There is virtually no risk.

It just depends on the details.

[87tweetybirds]

Ok, the details are out. Purchase price will be 90% of the closing price on the last day of the offering period (4 offering periods a year). 1-15% of after tax pay. The company will pay the brokerage fees. And the shares can be sold anytime, with the employee being responsible for transaction fees and capital gains taxes. So what do you think? A good investment? And if it is a good investment, should I decrease my 401k contribution to do this? (I make about 2000/paycheck, and have 25% going to my 401k, and my hubby and I are putting $ into savings for a down payment on a house to the tune of $3000/month, so without decreasing the 401k, I'm not sure we could invest in this opportunity.)

[clifp]

No don't change your 401K contributions.  Max this out at 15% with a 10% discount this is equivalent to a 1.5% increase in salary and the interest rate is approximately 20%.  For this plan just sell immediately, dip into your emergency fund if you need to fund it for the first 3 months, and use the first stock sale to replenish the fund.

[87tweetybirds]

Ok so then maybe a stupid/newbie question, but what technicalities are there with selling stock? I haven't ever sold stock, (just bought it)
And clifp, what do you mean the interest rate is 20%? I guess I don't understand that part of your math.

[milesdividendmd]

Of course it's a good deal. Buy the stock at a 10% discount, sell it the next day and buy a low cost index find with the proceeds.

Instantaneous 10% capital appreciation. Even if you are taxed at the highest marginal rate in a high tax state that's a guaranteed 5% real profit.

Buy as much as you can and sell it as quickly as possible.

Free money is always a good deal.

[MDM]

Ok so then maybe a stupid/newbie question, but what technicalities are there with selling stock? I haven't ever sold stock, (just bought it)

The specific details will depend on how (e.g., which brokerage?) your company handles the program.  A common approach:
  1.  You establish an account at the brokerage your company uses to run the program.
  2.  You pay for the stock in some way: a check made out to your company or the broker, or having enough funds in a brokerage account to buy the stock, etc.
  3.  When the purchase is complete, the stock is credited to your account.
  4.  You log in to your brokerage account, select the shares just purchased, choose "Sell" from some action menu, pick specific options (e.g. how the funds will be sent to you), click "Submit" - and the stock sale occurs.

If that isn't close to your company's approach, explain what you can and folks can likely fill in the rest for you here.

For taxes,
  - the 10% discount should be included in the W-2 from your company, and they should withhold 25% of that (which will also appear in the W-2) for federal tax and whatever state tax applies.
  - you should get a 1099 form from the brokerage detailing the (likely very small) difference between the non-discounted (you already paid tax on the discount) purchase price and your sales price.  If you use any decent tax software you'll just enter the 1099 fields into the program and it will handle things.

[clifp]

Ok so then maybe a stupid/newbie question, but what technicalities are there with selling stock? I haven't ever sold stock, (just bought it)
And clifp, what do you mean the interest rate is 20%? I guess I don't understand that part of your math.

Imagine that your plan was simpler. Jan 1 you invest $10,000 on Dec 31 the stock is sell at $10 share you get a 10% discount so you buy 1,111 at $9 share, and turn around at sell it at $10 share making you a profit of $1,110.  The interest rate (really IRR internal rate of return) is $1,110/$10,000= 11.1%

Instead what is happening is your money is be gradually invested every paycheck instead of of having say $10,000 invested at the beginning of each year.  At the beginning of each quarter you have $0 invested at the end of the period you have $2,500 invested on average you have $1,250 invested in the stock purchase plan.  You still get the full $1,110 in profit spread out over four quarters. However, your average investment is only $1,250  so you make $1,100 on $1,250 over a year.   In fact, when I think it about your actually IRR is over 80%/per year.   Which I know sounds crazy high, but I participated in many lunch discussion at my old company figuring out the actual IRR of stock participation plans. 

Suffice to say your company stock participation plan is one of the very few things in the world that it make sense to borrow money on credit card to participate in. It is a great deal.

[Albert]

Looks like no loss possible deal indeed. Your company doesn't give a big discount, though. Mine is offering 50% discount albeit we can't sell for 3 years so there is a slight risk of losing money.

[lakemom]

Double check and see if the stock can be held WITHIN your 401K.  That is what we do, 10% of the 401k is allocated to company stock purchases the balace in mutual funds.  But, dh works for a fortune 100 company that pays a nice dividend quarterly.  We don't get a discount on the stock price either so the 'value' fluctuates up and down BUT we are buying it for the dividend more than the equity.

[milesdividendmd]

Double check and see if the stock can be held WITHIN your 401K.  That is what we do, 10% of the 401k is allocated to company stock purchases the balace in mutual funds.  But, dh works for a fortune 100 company that pays a nice dividend quarterly.  We don't get a discount on the stock price either so the 'value' fluctuates up and down BUT we are buying it for the dividend more than the equity.

In this scenario I would argue against purchasing the company stock.

When you buy stock in one company that you work for,  you are accepting both

1.  The uncompensated risk of owning a single company stock as opposed to a broad index .

2.  An amplified downside risk. If the company implodes, you could very well be out of a job at the exact same time your stock portfolio crashes.

[arebelspy]

Double check and see if the stock can be held WITHIN your 401K.  That is what we do, 10% of the 401k is allocated to company stock purchases the balace in mutual funds.  But, dh works for a fortune 100 company that pays a nice dividend quarterly.  We don't get a discount on the stock price either so the 'value' fluctuates up and down BUT we are buying it for the dividend more than the equity.

In this scenario I would argue against purchasing the company stock.

When you buy stock in one company that you work for,  you are accepting both

1.  The uncompensated risk of owning a single company stock as opposed to a broad index .

2.  An amplified downside risk. If the company implodes, you could very well be out of a job at the exact same time your stock portfolio crashes.

Agreed, if there's no discount I see no reason to amplify your risk.

In the OP's discount scenario, the buy/sell method is my preferred way, though holding for 1 year and 1 day is a fine choice as well.

[MDM]

In the OP's discount scenario, the buy/sell method is my preferred way, though holding for 1 year and 1 day is a fine choice as well.

Agree with buy/sell being preferred.

Don't understand why "holding for 1 year and 1 day is a fine choice as well."  The OP will have been taxed (as ordinary income) on the discount, so the stock basis will equal the market price when purchased.  At that point the OP simply holds shares in an individual stock, and should either sell immediately (the "preferred way") or hold indefinitely if the OP believes that individual stock will outperform the market.

If the OP were converting a guaranteed short term capital gain into an identical long term capital gain, that would indeed be a fine choice - but unless I misunderstand this particular company's ESPP, the previous paragraph applies. 

[arebelspy]

You're correct - I don't know what I was thinking when I posted that.  Thanks for the correction.  :)

[87tweetybirds]

Thank you all for your advice so far. I've been discussing this with the significant people in my life, and one of them mentioned to make sure that selling the stock wasn't going to cost more than the 10% discount. My company's site says, "You will be responsible for transaction fees related to the sale as well as any capital gains taxes due on earnings from the sale." So I wanted to know how much the transaction fees might be, and how to calculate capital gains taxes. I spoke with the company that will manage the sale, and they couldn't give me exact numbers(which I found a bit frustrating), but said, there is a 29.95 transaction fee + $.05/share+the SEC which is between $.01 and $1. So calculating it out, is there a point where purchasing shares would not be beneficial? I calculated the general cost, based on current share price(about $68/share), and a guestimate of how many shares I think I will be buying(it could be more, could be less, depends on my hours, which fluctuate) and come up with about 35 shares. So if my math is right, when I sell, transaction fees will be about $32-33. All constant, I should still come out with about 200 more than I would have without this stock option program, which isn't bad(for 3 months) I suppose. Is my math right? And how do I calculate the capital gains tax? If I don't leave it there, but sell it the day it comes out, and then invest it in an index, will I have to pay capital gains?