All posts tagged Stock Options

Do I Need A Share Reserve to Grant Compensatory Stock Options?

by StartUpAdmin on September 2, 2011 in Equity Compensation with No comments

Stock options are key to startups. Despite some larger companies adopting restricted stock award plans, options are still the way to go for startups.  They are a vital recruitment, incentive and retention tool.

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Stock Option Deduction Debate: Journey Down the Rabbit Hole

by StartUpAdmin on July 19, 2011 in Federal Law & Regulation with 1 Comment

Have you ever wished you’d coined a phrase? I wish I’d coined the phrase “curiouser and curiouser” from Alice in Wonderland. As time goes by, our laws and regulations and accounting pronouncements become, by virtue of amendments, inflation (without corresponding adjustments to the indices), interpretations, pronouncements, etc., so confused and conflicting that you have to be curiouser and curiouser just to understand how we got to where we are.

In the case of the deduction for stock options, there has been what many would consider to be a “great deal” going on for a long time. This is how it works. If a corporation grants a nonqualified stock option, it gets a deduction when that stock option is exercised in an amount equal to the amount by which the fair market value of the stock underlying the option exceeds the exercise price. This despite the fact that the corporation doesn’t have to outlay any cash for this spread. What a great deal! Many very profitable corporations have benefited greatly from what some would call a phantom expense. Think of a grinning kitty. This deduction has allowed many profitable corporations to plow more money into hiring, and arguably helped grow the economy immensely by encouraging corporations to align long-term shareholder value with worker incentives.

But now there is a bill that has been introduced in Congress (S. 1375) that would put a crimp on the fun. S. 1375 would limit the deduction to what corporations have taken as an expense for financial accounting purposes, and force the matching of the financial and tax treatments. What corporations deduct for financial accounting purposes is frequently less than what the spread and deduction turns out to be. Thus, S. 1375 would make granting nonqualified stock options less attractive to companies.

Stock Option Deductions

The issue is the baby of Sen. Carl Levin, and is currently co-sponsored by Sen. Sherrod Brown. According to the Joint Committee on Taxation, forcing the matching of the accounting and tax treatments would bring in around $25 billion in extra revenues over a 10 year period. Not a ton of revenue when you quantify it over trillions of dollars for sure, but every bit counts.

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5 Things To Remember As You File Your Section 83(b) Election With The IRS

by StartUpAdmin on July 15, 2011 in Federal Law & Regulation with 2 Comments

As the founder of a startup company, by the time you get to the point of filing a Section 83(b) election with the IRS, you will have most likely already bought a helmet to keep your brains from flowing freely out of your ears from the mindboggling number of details involved in starting a company. You have been counseled on what type of entity to form, where to incorporate, founder vesting schedules, and myriad other details. You have gotten all of your documents executed and in place. You have properly completed and filled out your Section 83(b) election. Now all you have to do is file it. You are just about done! The purpose of this post is to give you guidance on this last step.

There are few tax code sections with rules as stringent as Section 83(b). Along with the rules being very specific and time sensitive, not complying with them could cause a founder to owe substantially more income tax down the road than necessary. So, put the helmet on and let’s go.

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What Is the Difference Between Warrants and Options?

by Joe Wallin on December 16, 2009 in Uncategorized with 1 Comment

Warrants and stock options are similar in that they are both contractual rights to buy stock of a company, at a price fixed in the contract, and for the period specified in the contract.

However, warrants and options are typically thought of differently for tax reasons. Stock options are typically associated with compensatory services, and warrants are typically associated with investment transactions.

For example, a consultant would typically receive stock options, and an investor in a convertible note and warrant round would typically receive warrants.

The reason for this is that the tax treatment of a compensatory stock option is dramatically different from the tax treatment of a warrant received by an investor in connection with an investment.

I am frequently asked the following question:  Can a service provider receive a warrant in connection with the provision of services?

The short answer is yes, but it is important to keep in mind that a warrant received in connection with the performance of services will be taxed just like a compensatory stock option. 

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How Do I Value My Company So That I Can Grant Stock Options?

by Joe Wallin on February 20, 2009 in Uncategorized with No comments

Startup companies frequently have to confront this issue.  After the founder stock issuances, the company will want to be able to grant stock options to new hires.  Internal Revenue Code Section 409A requires that stock options be granted at fair market value to avoid adverse tax consequences.

But how do you determine fair market value?

The law does not require that companies hire an independent, third party appraiser to value their stock.  You may want to; it may be very helpful to you if you do.  But the law does not require it.

What the law does require is that the valuation be determined by the “reasonable application of a reasonable valuation method.” The regulations say:

“[I]n the case of service recipient stock that is not readily tradable on an established securities market, the fair market value of the stock as of a valuation date means a value determined by the reasonable application of a reasonable valuation method.”

The regulations go on to say:

“The determination whether a valuation method is reasonable, or whether an application of a valuation method is reasonable, is made based on the facts and circumstances as of the valuation date.”

The regulations go on to say:

Factors to be considered under a reasonable valuation method include, as applicable,

  • the value of tangible and intangible assets of the corporation,
  • the present value of anticipated future cash-flows of the corporation,
  • the market value of stock or equity interests in similar corporations and other entities engaged in trades or businesses substantially similar to those engaged in by the corporation the stock of which is to be valued,
  • the value of which can be readily determined through nondiscretionary, objective means (such as through trading prices on an established securities market or an amount paid in an arm’s length private transaction),
  • recent arm’s length transactions involving the sale or transfer of such stock or equity interests, and
  • other relevant factors such as control premiums or discounts for lack of marketability and whether the valuation method is used for other purposes that have a material economic effect on the service recipient, its stockholders, or its creditors.

We are of course lawyers and not valuation experts, and companies may want consult with valuation consulting firms.