Startup Employment Equity After Termination: Clawbacks, Repurchase Rights, and Post-Exercise Windows

Every startup will eventually lose employees who hold equity. Co-founders leave. Early engineers get recruited by FAANG. VPs get terminated for performance. Each departure triggers a set of equity questions that most startups handle reactively — and often badly.

The stakes are real. Mishandled equity on termination creates cap table problems that surface during due diligence, poison future hiring, generate tax liabilities, and occasionally produce litigation. Getting this right requires thoughtful document drafting at the outset, not improvised negotiations at the exit interview.

This post is an employer-side playbook for structuring equity provisions around termination: repurchase rights, clawbacks, post-termination exercise windows, and the tax traps that catch founders off guard. If you're looking for the employee perspective on what happens to your equity when you leave, see our post on equity when an employee leaves.

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The Equity Lifecycle at Termination

When an employee departs, their equity falls into three buckets, each with different treatment:

1. Unvested Shares and Options

Unvested equity is the simplest case: it's forfeited. Under a standard four-year vesting schedule with a one-year cliff, any shares or options that haven't vested as of the termination date are cancelled automatically. The employee has no right to them. No action is required beyond updating the cap table.

This is why vesting schedules exist — they protect the company (and co-founders) from giving permanent equity to people who leave early.

2. Vested but Unexercised Options

This is where complexity begins. Vested options give the holder the right — but not the obligation — to purchase shares at the strike price. If the employee hasn't exercised, the company's stock option plan governs what happens next, specifically through the post-termination exercise period (PTEP).

3. Vested and Exercised Shares

If the employee exercised their options (or received restricted stock that has vested), they own actual shares. The company's ability to recover those shares depends on whether the equity documents include repurchase rights — and how those rights are structured.

Let's address each of these in detail.

Post-Termination Exercise Windows

The post-termination exercise period is the window after an employee's last day during which they can still exercise vested options. This is one of the most consequential — and most misunderstood — terms in startup equity.

The Standard: 90 Days

Most stock option plans set a 90-day PTEP. After termination (voluntary or involuntary), the employee has 90 days to exercise vested options or they expire worthless.

The 90-day window comes from the ISO tax rules — specifically, the requirement under Section 422 of the Internal Revenue Code that an ISO must be exercised within 90 days of termination to retain its favorable tax treatment. Because most option plans are designed around ISOs, the 90-day PTEP became the default.

The Problem with 90 Days

A 90-day window works fine when the exercise cost is low — say, $2,000 for an early employee's entire vested grant. It becomes punitive when the exercise cost is high:

• An employee with 50,000 vested options at a $5 strike price needs $250,000 in cash to exercise within 90 days of being fired.
• On exercise, the employee owes ordinary income tax on the spread between the strike price and the current 409A fair market value — potentially creating a six-figure tax bill with no liquidity to pay it.
• If the company never achieves a liquidity event, the employee has spent $250,000+ (exercise cost plus taxes) on illiquid private stock that may be worth nothing.

This dynamic forces employees — particularly mid-stage employees who joined after the stock had appreciated — to walk away from vested equity they earned. It's legal, but it's increasingly seen as unfair, and it creates hiring headaches as sophisticated candidates (and their advisors) push back on 90-day PTEPs.

Extended Exercise Windows as a Retention and Recruiting Tool

A growing number of startups now offer extended PTEPs — typically 1 year, 5 years, 7 years, or even 10 years (the maximum for ISOs; NSOs can go longer). Notable companies like Coinbase, Pinterest, and Stripe popularized this approach.

Benefits of extended PTEPs:

• Recruiting advantage. Candidates increasingly evaluate PTEP as a core comp term. A 10-year window signals confidence in the company's trajectory and respect for employee equity.
• Retention tool. Counterintuitively, extended PTEPs can improve retention. Employees who know they won't lose vested equity if they leave are less likely to stay purely out of "golden handcuff" anxiety — and more likely to be engaged while they're there.
• Reduced disputes. A 90-day PTEP generates the most termination-related equity disputes. Extending it eliminates the most common source of friction.
• Fairness signal. In a competitive talent market, equity-friendly terms differentiate your offer.

Costs and risks of extended PTEPs:

• ISO to NSO conversion. This is the big one. If an employee exercises an ISO more than 90 days after termination, the ISO automatically converts to a non-qualified stock option (NSO). This means the spread on exercise is taxed as ordinary income (up to 37% federal plus state) rather than potentially qualifying for long-term capital gains treatment. More on this below.
• Cap table complexity. Outstanding options held by former employees create cap table clutter and complicate future financings. Investors prefer clean cap tables.
• Dilution. Unexercised options by former employees represent potential dilution that remains on the cap table longer.
• 409A implications. Options held by non-service-providers for extended periods create valuation questions.

Structuring Extended PTEPs

If you offer extended exercise windows, consider these structural choices:

Tiered by tenure. Some companies tie the PTEP to years of service: 1 year of service = 1 year PTEP, up to a maximum. This rewards loyalty while limiting exposure for short-tenure employees.

Tiered by termination type. A longer window for involuntary termination (layoff, position elimination) and a shorter window for voluntary resignation. This recognizes that employees who are let go deserve more time.

Board discretion. The stock option plan can grant the board discretion to extend the PTEP on a case-by-case basis. This provides flexibility but creates negotiation leverage issues and potential discrimination claims if applied inconsistently.

Cap on extension. Limit the extension to the earlier of (a) the extended period or (b) the option's original expiration date (typically 10 years from grant). This is standard and prevents perpetual options.

Our recommendation: For most venture-backed startups, a default PTEP of 1 year for all employees, with the option plan allowing the board to extend to up to 10 years in specific cases (e.g., layoffs, long-tenured employees), strikes a reasonable balance.

The ISO-to-NSO Conversion Trap

This is the most common tax trap in startup equity terminations, and most founders don't understand it until it's too late.

How It Works

Under Section 422 of the Internal Revenue Code, an incentive stock option (ISO) must be exercised within 90 days of termination of employment to retain ISO status. If the employee exercises after the 90-day window — even if the option plan allows a longer exercise period — the option is automatically treated as a non-qualified stock option (NSO).

ISO treatment: No ordinary income tax on exercise (though AMT may apply). If the employee holds the shares for more than one year after exercise and two years after grant, the entire gain is taxed at long-term capital gains rates (20% federal + 3.8% NIIT).

NSO treatment: The spread between the strike price and fair market value on the date of exercise is taxed as ordinary income — up to 37% federal plus state income tax, plus payroll taxes. The company must withhold income and employment taxes on the spread, which creates its own operational headaches for both parties.

The Practical Impact

Consider an employee with 100,000 vested ISOs at a $2 strike price. The current 409A FMV is $20/share.

• Exercise within 90 days (ISO treatment): No ordinary income tax on exercise. Potential AMT on $1.8M spread. If shares are held for 1+ year and then sold, gain is taxed at 20% LTCG rate.
• Exercise at month 6 (NSO treatment): $1.8M taxed as ordinary income. At 37% federal + 10% state = ~$846K in tax — with no liquidity to pay it.

The delta between these scenarios can be hundreds of thousands of dollars.

What Founders Should Know

You must communicate this. When offering extended PTEPs, make clear — in writing — that exercise after 90 days converts ISOs to NSOs. Include this in the option agreement, the option plan summary, and ideally in a plain-language FAQ provided at termination.

Failure to communicate creates exposure. While the tax conversion is a matter of law (not company discretion), employees who are surprised by a massive tax bill may blame the company — and in some cases, sue.

Consider the withholding obligation. When a former employee exercises an NSO, the company is legally required to withhold income and employment taxes on the spread. This means:

• The company needs a mechanism to collect withholding from a former employee who may be hostile or unresponsive
• Common approaches: require the former employee to remit the withholding amount in cash at exercise, or withhold shares (a "net exercise") equivalent to the tax obligation
• Build this mechanism into your stock option plan and exercise procedures

Plan design matters. If you want to offer extended PTEPs while preserving ISO treatment for as long as possible, one approach is to grant a mix of ISOs and NSOs. ISOs have an annual vesting limit of $100,000 in aggregate FMV at the time of grant. Options that exceed this limit are automatically treated as NSOs. By structuring the grant so that options likely to be exercised post-termination are already NSOs, you reduce the surprise factor.

Repurchase Rights on Shares

When an employee has exercised options or holds vested restricted stock, they own actual shares. The question becomes: can the company buy those shares back?

The Company's Repurchase Right

Most well-drafted equity documents include a company repurchase right — the right (but not the obligation) to repurchase shares from departing employees. This is typically found in:

• The Restricted Stock Purchase Agreement (for early exercise or founder stock)
• The Stock Option Exercise Agreement (signed at the time of exercise)
• The company's Right of First Refusal (ROFR) provisions
• The Stockholders' Agreement or Equity Incentive Plan

See our posts on right of first refusal and stockholders' agreements for more on these mechanisms.

Unvested Shares: Repurchase at Cost

For unvested shares (common with early exercise), the company should have a repurchase right at the employee's original purchase price. This is the most straightforward case:

• Employee early-exercised 100,000 shares at $0.01/share and filed an 83(b) election
• After 2 years (50% vested), the employee leaves
• The company repurchases 50,000 unvested shares at $0.01/share = $500

The repurchase right on unvested shares should be automatic and at cost. This is functionally equivalent to forfeiture and is standard in every well-drafted restricted stock agreement.

Important: The company must actually exercise this right. If your documents say "the company may repurchase unvested shares within X days of termination," someone needs to send the repurchase notice within that window. Failure to exercise the repurchase right on time can result in the employee keeping unvested shares — a surprisingly common and entirely avoidable mistake.

Vested Shares: The Market Standard

Unlike unvested shares, repurchase rights on vested shares are not market standard for typical startup equity grants. Once shares have vested and been exercised (or restricted stock has vested), the employee owns them outright. That's the deal — vesting is the mechanism that determines whether someone has earned their equity, and once they have, the expectation is that it's theirs to keep.

Attempts to include repurchase rights on vested equity in stock purchase agreements or option exercise agreements will raise red flags with sophisticated candidates and their advisors. It signals that the company doesn't view vesting as a genuine commitment, which undermines the entire purpose of equity compensation.

What companies use instead: The standard approach to maintaining cap table control over shares held by former employees is a right of first refusal (ROFR) — the right to match any third-party offer to purchase the shares. This doesn't take equity away from departing employees, but it ensures the company can control who ends up on the cap table. See our post on right of first refusal for a full discussion.

Transfer restrictions are also standard — requiring board approval for any share transfers, prohibiting transfers to competitors, and requiring compliance with securities laws. These are non-controversial and universally accepted.

The rare exceptions: Repurchase rights on vested shares do appear in limited contexts — primarily in good leaver/bad leaver structures (discussed below) where a "bad leaver" termination triggers a cost-basis repurchase. These are more common in companies with European investors and should be disclosed prominently. Even then, they're applied only to specific misconduct scenarios, not as a default term.

Clawback Provisions

Clawbacks go beyond repurchase rights — they allow the company to recover equity or equity value already received by the employee under specific circumstances. Clawbacks are more aggressive than repurchase rights and should be used judiciously.

Common Clawback Triggers

Breach of restrictive covenants. If the employee violates a non-compete, non-solicitation, or confidentiality agreement, the company can claw back some or all equity. This is the most common and defensible clawback trigger.

Cause termination. If the employee is terminated for cause (fraud, theft, material breach of duties, felony conviction), the company may claw back vested equity or convert a FMV repurchase right into a cost-basis repurchase.

Bad acts discovered post-termination. If the company discovers after termination that the employee engaged in conduct that would have constituted "cause" — e.g., fraud, embezzlement, IP theft — the clawback can be triggered retroactively.

Breach of CIIA. If the employee fails to assign intellectual property as required by their Confidential Information and Inventions Assignment agreement, equity clawback provisions create leverage to compel compliance.

Good Leaver / Bad Leaver Structures

Some companies — particularly those with European investors or influence — use a "good leaver / bad leaver" framework:

Good leaver (involuntary termination without cause, death, disability, resignation with board consent): Repurchase at FMV. The departing employee gets the economic value of their shares.

Bad leaver (voluntary resignation, termination for cause, breach of restrictive covenants): Repurchase at the lower of cost basis or FMV. This is economically punitive — the "bad leaver" forfeits all appreciation. Note that bad leaver provisions are not standard in U.S. venture-backed startups and are more common in companies with European investors or influence. If you include them, disclose them prominently during the hiring process — surprising departing employees with a cost-basis repurchase they didn't know about is a recipe for litigation and reputational damage.

The middle ground: Some structures use a sliding scale based on tenure. An employee who leaves voluntarily after 6 months is a "bad leaver" (cost-basis repurchase). An employee who leaves voluntarily after 3 years gets FMV. This balances the company's interest in retention against the employee's interest in fair treatment.

Enforceability Considerations

Clawback provisions are enforceable, but with limits:

• State law matters. Some states (notably California) disfavor forfeiture-for-competition provisions. A clawback triggered by competition may be unenforceable in California even if the equity documents are governed by Delaware law and the company is incorporated in Delaware. See our post on non-competes for state-specific analysis.
• Reasonableness. Courts may decline to enforce clawbacks that are disproportionate to the triggering event. Clawing back $5M in vested equity because an employee sent a single LinkedIn message to a former colleague is unlikely to survive judicial scrutiny.
• Securities law. Repurchases must comply with state and federal securities laws. Repurchasing shares below FMV may create securities fraud exposure.
• Tax implications. Clawbacks of previously exercised shares can create complex tax situations for both the company and the employee. If the employee paid tax on the exercise (as with NSOs or 83(b) elections), the clawback may not generate a corresponding tax refund in the same period.

Structuring Equity Documents to Avoid Disputes

The best time to address termination equity issues is before the first option is granted. Here's how to build a dispute-resistant equity framework:

1. Use a Comprehensive Stock Option Plan

Your equity incentive plan (typically a board-approved plan documented by counsel) should address:

• Post-termination exercise periods for each type of termination (voluntary, involuntary, cause, death/disability)
• ISO-to-NSO conversion mechanics and disclosure requirements
• Withholding obligations and procedures for former employees
• Board discretion to modify PTEPs
• Repurchase right mechanics, including pricing, notice requirements, and exercise windows

Don't rely on the default templates from your incorporation service. Have counsel draft or review your plan with these issues in mind.

2. Clear Definitions

The single most litigated issue in startup equity disputes is the definition of "Cause." A vague definition invites disagreement. Your plan and agreements should define Cause with specificity:

Weak: "Cause means conduct detrimental to the company."

Strong: "Cause means (i) commission of a felony or crime involving moral turpitude; (ii) material breach of any written agreement with the Company, including the CIIA, that remains uncured 30 days after written notice; (iii) willful misconduct or gross negligence in the performance of duties; (iv) fraud, embezzlement, or misappropriation of Company funds or property; or (v) material violation of written Company policies after written warning."

Similarly, define "Disability," "Change of Control," "Good Reason" (if applicable), and any other triggering events with precision.

3. Consistent Application

Whatever your equity policies, apply them consistently. Giving one departing employee a 10-year exercise window and another a 90-day window — without a documented, defensible basis for the distinction — creates exposure under employment discrimination laws and invites claims of unfair treatment.

If you want flexibility, build it into the plan as board discretion with documented criteria. Record the board's reasoning in meeting minutes for each PTEP extension.

4. Written Termination Equity Summary

At termination, provide the departing employee with a written summary of their equity status:

• Number of vested and unvested shares/options
• Exercise price and current 409A FMV
• Post-termination exercise deadline (specific date, not "90 days")
• ISO vs. NSO status and conversion implications
• Repurchase right terms and timeline
• Any ongoing obligations (CIIA, non-compete, non-solicit, ROFR)
• Company contact for equity-related questions

This costs nothing to prepare and prevents the most common disputes — "I didn't know my options would expire" and "nobody told me about the tax consequences."

5. Separation Agreements

For any non-trivial departure, use a separation agreement that addresses equity explicitly:

• Confirms the equity treatment (vesting cutoff, PTEP, repurchase rights)
• Includes a general release of claims related to equity
• Reaffirms the CIIA and any restrictive covenants
• Addresses any negotiated modifications (extended PTEP, accelerated vesting, waiver of repurchase right)

In exchange, the company typically provides severance (cash, extended exercise window, or both). The release is what makes the separation agreement valuable to the company.

6. Board Approval and Documentation

Every equity action at termination should be documented with board approval (or committee approval if you have a compensation committee):

• Forfeiture of unvested shares/options
• Exercise of repurchase rights
• Extension of post-termination exercise periods
• Any deviation from standard plan terms

Board minutes should reflect the action taken, the basis for the action, and any relevant considerations (tax implications, legal advice received, consistency with prior actions). This creates a record that protects the company if the action is later challenged.

Acceleration on Termination: Single vs. Double Trigger

While not strictly a "clawback" or "repurchase" issue, acceleration clauses interact directly with termination equity provisions and deserve mention.

Single Trigger

Some equity grants accelerate vesting upon a change of control event (acquisition), regardless of whether the employee is terminated. This is most common for founders and C-suite executives.

Double Trigger

Acceleration occurs only if there is both (1) a change of control and (2) the employee is terminated without cause (or resigns for good reason) within a specified period (typically 12-24 months) after the change of control.

Most investors prefer double trigger. It aligns incentives by keeping the team in place through the transition period. Single trigger creates a retention problem — employees who vest fully on acquisition have less reason to stay for the earn-out.

For a deeper discussion of acceleration and vesting structures, see our posts on founder vesting and equity incentive plans.

Common Mistakes

1. Failing to Exercise the Repurchase Right on Time

If your documents give the company 90 days to exercise a repurchase right, day 91 is too late. Calendar the deadline, assign someone to execute it, and follow through. This is the single most common equity administration failure.

2. Inconsistent PTEP Treatment

Extending the exercise window for the CEO's college roommate but not for the engineer who was laid off creates legal exposure and morale problems. Establish a policy and apply it consistently.

3. Ignoring Withholding on Post-90-Day Exercise

When a former employee exercises converted NSOs, the company has a withholding obligation. Failing to withhold creates tax liability for the company. Build a withholding mechanism into your exercise procedures.

4. Not Updating the Cap Table

Every termination should trigger a cap table update: unvested shares cancelled, PTEP deadline noted, repurchase rights calendared. Deferred cap table updates create compounding errors that surface (expensively) during due diligence. See our post on cap table management for best practices.

5. Verbal Promises

"Don't worry, we'll take care of you" is not an equity plan amendment. Verbal promises about equity treatment — extended exercise windows, accelerated vesting, waived repurchase rights — can create enforceable obligations under contract or promissory estoppel theories. If you're going to make a commitment, put it in writing through proper corporate channels.

The Bottom Line

Termination equity is where startup culture meets corporate law. The decisions you make about repurchase rights, clawbacks, and exercise windows shape your company's reputation as an employer, the cleanliness of your cap table, and your exposure to disputes and litigation.

The key actions:

1. Draft comprehensive equity documents from day one. Your stock option plan and award agreements should address every termination scenario with specificity.
2. Consider extended PTEPs. The 90-day default is increasingly seen as punitive. A 1-year or longer window is a competitive advantage in hiring.
3. Communicate the ISO-to-NSO conversion. In writing, at grant and at termination. This prevents the most common tax-related disputes.
4. Exercise repurchase rights on time. Calendar it. Assign it. Do it.
5. Apply policies consistently. Document every deviation and the business reasons for it.
6. Use separation agreements. For every non-trivial departure, formalize the equity treatment and get a release.

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Need help structuring your equity plan or handling a tricky departure? Book a free call — we help startups build equity frameworks that are fair, defensible, and clean for diligence.