Employee Stock Options: A smart way to grow your business and your team
What are employee stock options?
Employee stock options (ESOs) are a way to reward and motivate your team, whether they are existing employees or sometimes even consultants. Instead of only paying salary or bonuses, you give them the right to buy shares in your company in the future at a set price.
In simple terms: When your business grows and the value of the corporation’s shares increases, your employees can share that success.
Why business owners should care
Stock options aren’t just another form of compensation. They help you:
✅ Keep strong talent
✅ Attract skilled people without increasing payroll immediately
✅ Align your team with long-term business success
✅ Build loyalty — because your team has a stake in the outcome
When your employees feel like owners, they think and act like owners. That means more commitment, innovation, and long-term focus.
As a growing business, you need great people but you also need to be smart with your cash. Stock options help you do both. They allow you to reward and motivate your team without putting pressure on your payroll today, while giving employees a reason to stay and help build your company’s future.
Here’s why more and more business owners use stock options as part of their growth strategy:
➤ Helps attract and keep great talent
For startups and growing companies, stock options are a powerful way to bring in skilled professionals when cash flow or salary budgets are limited.
➤ Align employee and shareholder interest
When employees own a piece of the company, they think long-term. Their success is tied to the success of the business, so they’re more focused, accountable, and aligned with your vision.
➤ Encourages team loyalty and reduces turnover
Options typically “vest” over time — meaning employees earn them gradually. This encourages your team to stay, grow with your company, and contribute year after year rather than jumping ship for the next offer.
➤ Motivates performance and innovation
If the company grows, employees benefit financially. That motivates people to go the extra mile, solve problems creatively, and truly invest in the company’s success.
➤ Creates an ownership mindset
Team members with stock options often operate like owners, making smarter decisions, staying resourceful, and taking more pride in results.
➤ Strengthens your compensation package
In competitive industries like tech, professional services, and innovation driven sectors, options help you stand out and compete for top talent while still managing costs.
➤ Protects your cash for business growth
Instead of increasing salaries right away, you can put your capital where it matters most — product development, marketing, expansion, and operations while still rewarding your team.
Here’s are Key Stages of how ESOs work:
1️⃣ Granting (Promise of future shares)
You offer an employee a set number of stock options — for example, 1,000 options at $10 per share.
This doesn’t give them shares yet, it simply gives them the right to buy in later at that price.
2️⃣ Vesting (Earning the options over time)
Employees don’t get all their options at once. They earn them gradually known as vesting.
Example: If options vest over four years, the employee earns 25% per year.
Why it matters: It encourages employees to stay longer and be part of the company’s growth.
3️⃣ Exercising (Buying the shares)
Once vested, employees can buy shares at the original fixed price (called the strike price).
If the value is higher at that time, they benefit.
4️⃣ Expiration (Deadline to use the options)
Options aren’t forever as they come with an expiry date. If employees don’t exercise them by then, they lose the right to buy.
Key Terms Made Simple
| Term | What it Means |
|---|---|
| Option Pool | Shares set aside to offer employees as part of compensation |
| Exercise/Strike Price | The set price employees can buy shares for later |
| Vesting Schedule | Timeline showing how employees earn their options |
| Expiry Date | Final deadline to use the options |
Example — Simple and Practical
You grant an employee 1,000 options at $10 per share.
Four years later, your share value is $25 per share.
They buy at $10 → sell at $25
Profit = $15 per share (total $15,000)
Win-win:
✅ Employee gains financial upside
✅ You retain a motivated long-term contributor
Understanding the Tax Side of Employee Stock Options
Offering stock options is a powerful way to reward and retain great talent — but it’s important to understand how they are taxed in Canada so you and your team can plan ahead.
Under Section 5 and 6 of he Income Tax Act (ITA) it requires that any amount received by an employee by virtue of employment be included in income.
Deferral Rules Under the Income Tax Act
The Income Tax Act (Canada) includes specific provisions that allow employees to defer tax on stock option benefits, provided certain conditions are met.
Under subsection 7(1), where an employer grants an employee the right to acquire shares of the employer or a related corporation, the resulting employment benefit is generally deferred until the employee exercises the option and acquires the shares. In other words, tax is not triggered when the option is granted, but rather when the employee purchases the shares.
For Canadian-Controlled Private Corporations (CCPCs), subsection 7(1.1) provides an additional deferral benefit. Where stock options relate to shares of a CCPC and all statutory conditions are met, the employment benefit is not included in the employee’s income at the time of exercise. Instead, tax is deferred until the employee disposes of, or otherwise exchanges, the shares.
The taxable benefit in this case is calculated as:
Fair Market Value of shares at exercise
minus
Amount paid by the employee (strike price plus any related cost)
This benefit also becomes part of the adjusted cost base (ACB) of the shares for future capital gains purposes.
That’s a big win for startup and growth-stage companies trying to attract strong talent without raising payroll costs immediately.
Extra Bonus: 50% Stock Option Deduction
One of the major tax advantages of employee stock options in Canada is the potential 50% stock option deduction, which can significantly lower the employee’s taxable income making stock options an appealing part of a compensation package.
Under the Income Tax Act, employees may be able to cut the taxable benefit in half if certain requirements are met. This is intended to place stock option gains on a similar footing to capital gains, encouraging long-term ownership and participation in the company’s success.
When the 50% deduction applies for private companies (CCPCs)
For shares of a Canadian-Controlled Private Corporation (CCPC), the deduction is available under paragraph 110(1)(d.1) where:
The shares were acquired under the CCPC stock option rules in subsection 7(1.1)
The employee holds the shares for at least two years after exercising the options
The employee has not claimed the deduction available for public company options under paragraph 110(1)(d)
This long-term holding requirement reinforces the purpose of employee equity: participation in the company’s long-term growth, not short-term trading.
An important feature for business owners is that the CCPC benefit remains locked in at the grant date. Even if the company later goes public, raises institutional capital, or is acquired by a non-Canadian buyer, the employee still keeps the CCPC tax benefits as long as the corporation was a CCPC when the options were granted.
| What to Know | ||
|---|---|---|
| Eligibility | Define who qualifies for options (employees, contractors, advisors). Rules differ by role and jurisdiction. | Align plan terms with employment laws to avoid disputes around termination, notice, and vesting. |
| Tax Reporting | Option benefits are taxable when exercised (unless CCPC deferral applies). Withholding obligations may vary. | Ensure proper payroll reporting and stay current on CRA and legislative changes. |
| Plan Terms & Documentation | Clearly outline grant terms, vesting, expiry, termination rights, exercise process, and change-of-control treatment. | Use precise legal language. Poor wording can lead to disputes and loss of tax benefits. |
| Valuation & Dilution | Private companies must support fair market value. Future financings may dilute employee ownership. If there is a possibility of share dilution, employees may need to consider whether their options will be worth much. | Establish a valuation process and communicate dilution risks to employees. |
Conclusion:
Strategic Talent Tool: ESOs are not just compensation, they support talent attraction, retention, and performance.
Cash-Flow Efficient: Ideal for growing companies balancing expansion with limited cash resources.
Alignment With Growth: Align employee interests with company performance and long-term value creation.
Ownership Mindset: Properly structured plans foster accountability and a partnership mentality among employees.
Requires Rigorous Planning: Successful plans demand clear documentation, strong governance, and thoughtful design.
Tax & Legal Considerations: Understanding applicable legislative and tax rules is essential to avoid compliance risks.
Cultural & Financial Impact: When executed well, ESOs strengthen culture, loyalty, and sustainable business growth.