Pay the full exercise cost and taxes from your own savings. Retain 100% of the upside.
Self-funding requires you to pay two things out of pocket: (1) the aggregate strike price, the number of options multiplied by the per-share strike price, wired directly to the company, and (2) the required tax withholding, remitted directly to the IRS. For ISOs, the tax cost is AMT on the spread. For NSOs, it's ordinary income tax plus payroll taxes on the spread. The total cash outlay can easily reach hundreds of thousands or millions of dollars for employees at higher-valued companies with large grants.
Self-funding serves as the critical baseline against which all external financing vehicles must be measured. From a pure cost-of-capital perspective, it is the most efficient methodology: it eliminates lender interest rates, origination fees, and upside participation fees entirely. If the company succeeds, you keep 100% of the terminal value. However, by liquidating diversified personal assets (cash savings, public mutual funds) to purchase illiquid private company stock, you highly concentrate your net worth into a single speculative entity where you also derive your primary salary.
Self-funding maximizes personal downside risk. If the company fails, goes bankrupt, or exits at a valuation below your strike price, you lose 100% of the invested cash. Furthermore, the AMT or ordinary income taxes paid at exercise cannot be easily recovered. The IRS limits the deduction of capital losses to a maximum of $3,000 per year against ordinary income. There is also a significant opportunity cost: the cash deployed to exercise could have compounded in diversified public market investments over the pre-IPO waiting period, which now averages approximately 12 years.
Self-funding works best when the spread is small (early exercise near a low 409A valuation), your total cash outlay is manageable relative to your overall net worth, and you have high conviction in the company's outcome. It eliminates all external fees and preserves 100% of the upside, but only if the company succeeds and you can comfortably absorb the loss if it doesn't.
Every dollar used to exercise options is a dollar that could have been invested in diversified assets. Over a 5–12 year pre-IPO waiting period, $100,000 in a broad market index fund might have grown to $160,000–$300,000. Self-funding models should compare the terminal equity value against what that cash would have returned in a public market investment over the same period.
The core tradeoff: self-funding costs you cash today and the opportunity cost of that capital, but retains 100% of the upside. Recourse loans add interest charges but preserve your existing savings and diversification, while keeping 100% of the upside. Non-recourse financing adds origination fees, interest, and carry, but protects your personal assets completely if the company fails.
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