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Does anybody know of a startup where common stock is issued right away (or let's say after a probation period), and then the employee issues options back to the

by ant6n 11y ago

Does anybody know of a startup where common stock is issued right away (or let's say after a probation period), and then the employee issues options back to the startup, which expire at fixed intervals corresponding to the vesting schedule? For an early startup, this would mean when there is a liquidity event, almost all of the gain would be capital gains. In Canada, it would be even better: people can defer taxes on stock and option grants until disposition (sale/bankruptcy). And the stock could be placed in a registered (i.e. tax-sheltered) account.

ammon 11y ago
Early startups can do this. The problem for larger (valuable) startups is that the grant of stock would be taxed (as income). Options get around this. (The tax law makes the rather dubious claim that options granted at the market value of the company have zero value.)
- jtfairbank 11y ago
  The main tax benefit of options is that you don't have to pay taxes until you exercise them (convert them into real stock). So even if you get the options at a discount then you don't have to pay until you want to convert them / cash them in (i.e. cost to exercise is $15 and the value per share when they are granted is $20).
keithba 11y ago
Many early stage startups will use early exercise options with a clawback mechanism. After the 409a valuation of the startup gets too high, this option becomes much harder for employees, which is why you don't generally see it outside of the earliest stages.
- chimeracoder 11y ago
  > After the 409a valuation of the startup gets too high, this option becomes much harder for employees (Disclaimer: I am not a lawyer, not your lawyer, this is not legal/tax advice, etc.) As I understand it, it's not just the valuation, but also the tax implications. If the options (as granted) are worth more than a certain threshold (~$100K), you can't early-exercise them without losing ISO tax treatment on the value in excess of the $100K threshold. This threshold is on an annual basis, so not exercising them early means that you quadruple[0] the amount that will be eligible AMT (which is preferable to ordinary income tax). [0] Assuming the standard vesting schedule, in which 1/4 of the shares are made available each year
- tedmiston 11y ago
  > Many early stage startups will use early exercise options with a clawback mechanism. Can you elaborate?
tomsaffell 11y ago
>and then the employee issues options back to the startup In effect, yes. When the employee purchases the stock, they sign a contract to sell their stock back to the company (with the number of shares to be sold left blank). Their vesting schedule establishes how the number of shares that the company is allowed to repurchase decreases with time, normally with a 'cliff', which removes the need for a probation period.
hkmurakami 11y ago
A standard RSU grant (same in nature as founder RSUs) will cover what you described.
- harryh 11y ago
  RSUs don't get capital gains tax rates.
rdl 11y ago
You can do stock grants with repurchase rights (which essentially vest); this is how founders usually get THEIR shares. I see no reason not to do this for every employee in the first year or pre-Series A at a startup; the tax consequences of a grant of common stock are minimal when the common stock is worth little. We did this at a startup where I worked in 2007. I'd do it in the future. (the one "downside" is that people who have vested become real shareholders, which can trigger some information/reporting rights, but you'd have a very small number of people pre-A, and I'm pro information transparency.) The other thing which would be interesting to me: startups offering shares via their own 401k.
toast0 11y ago
Early exercise with a hiring bonus that is hint the same amount as the exercise price would fill this? Don't forget to file the 83(b)
AndrewKemendo 11y ago
Yes. This is almost exactly what we do, but it's not an option that the employee is issuing it's a promissory note that is collateralized with the shares.
morgante 11y ago
Founder stock is usually in that form and personally I think it's fundamentally unfair that companies don't offer it to more employees. It's certainly more challenging when you're bigger, but IMO everyone pre-A should be getting actual stock.

by ant6n 11y ago

ammon 11y ago

Early startups can do this. The problem for larger (valuable) startups is that the grant of stock would be taxed (as income). Options get around this. (The tax law makes the rather dubious claim that options granted at the market value of the company have zero value.)

jtfairbank 11y ago
The main tax benefit of options is that you don't have to pay taxes until you exercise them (convert them into real stock). So even if you get the options at a discount then you don't have to pay until you want to convert them / cash them in (i.e. cost to exercise is $15 and the value per share when they are granted is $20).

keithba 11y ago

Many early stage startups will use early exercise options with a clawback mechanism. After the 409a valuation of the startup gets too high, this option becomes much harder for employees, which is why you don't generally see it outside of the earliest stages.

chimeracoder 11y ago
> After the 409a valuation of the startup gets too high, this option becomes much harder for employees (Disclaimer: I am not a lawyer, not your lawyer, this is not legal/tax advice, etc.) As I understand it, it's not just the valuation, but also the tax implications. If the options (as granted) are worth more than a certain threshold (~$100K), you can't early-exercise them without losing ISO tax treatment on the value in excess of the $100K threshold. This threshold is on an annual basis, so not exercising them early means that you quadruple[0] the amount that will be eligible AMT (which is preferable to ordinary income tax). [0] Assuming the standard vesting schedule, in which 1/4 of the shares are made available each year
tedmiston 11y ago
> Many early stage startups will use early exercise options with a clawback mechanism. Can you elaborate?

tomsaffell 11y ago

>and then the employee issues options back to the startup In effect, yes. When the employee purchases the stock, they sign a contract to sell their stock back to the company (with the number of shares to be sold left blank). Their vesting schedule establishes how the number of shares that the company is allowed to repurchase decreases with time, normally with a 'cliff', which removes the need for a probation period.

hkmurakami 11y ago

A standard RSU grant (same in nature as founder RSUs) will cover what you described.

harryh 11y ago
RSUs don't get capital gains tax rates.

rdl 11y ago

You can do stock grants with repurchase rights (which essentially vest); this is how founders usually get THEIR shares. I see no reason not to do this for every employee in the first year or pre-Series A at a startup; the tax consequences of a grant of common stock are minimal when the common stock is worth little. We did this at a startup where I worked in 2007. I'd do it in the future. (the one "downside" is that people who have vested become real shareholders, which can trigger some information/reporting rights, but you'd have a very small number of people pre-A, and I'm pro information transparency.) The other thing which would be interesting to me: startups offering shares via their own 401k.

toast0 11y ago

Early exercise with a hiring bonus that is hint the same amount as the exercise price would fill this? Don't forget to file the 83(b)

AndrewKemendo 11y ago

Yes. This is almost exactly what we do, but it's not an option that the employee is issuing it's a promissory note that is collateralized with the shares.

morgante 11y ago

Founder stock is usually in that form and personally I think it's fundamentally unfair that companies don't offer it to more employees. It's certainly more challenging when you're bigger, but IMO everyone pre-A should be getting actual stock.