The Advisors' Blog

– Liz Dunshee

We don’t often blog about issues specific to private companies – or hard-core tax stuff (thankfully we leave that to “The Corporate Executive” newsletter – and the NASPP). But it’s worth mentioning new Section 83(i) of the Internal Revenue Code, which was added by the Tax Cuts & Jobs Act. Section 83(i) allows private company employees to defer taxes for up to five years from the exercise of a stock option or settlement of a restricted stock unit.

This new Section is intended to benefit smaller & start-up companies, but whether it will actually be helpful remains to be seen. First, a 5-year deferral might not align with a liquidity event. And there are a lot of caveats – including that the company’s written equity plan must grant stock options or RSUs to at least 80% of all employees who provide services to the company in the U.S.

Not only that, Section 83(i) comes with some obligations & risks for companies – there’s a requirement to notify employees (or face penalties) if any of the outstanding awards are eligible for this tax deferral. This Wilson Sonsini memo dives into all of the conditions & requirements. It concludes:

Employers should begin assessing whether they have an obligation to comply with Section 83(i)’s notice requirements to avoid incurring penalties. Under a transition rule, until the IRS issues guidance implementing the employer notice and 80 percent test provisions, employers may comply with those requirements under a reasonable good faith interpretation of the statute. Employers wishing to enable their employees to take advantage of the Section 83(i) deferral opportunity should evaluate whether they wish to design their equity program to permit employees to make Section 83(i) elections in the future and begin planning early.

Section 83(i) provides a favorable, tax-deferral opportunity for rank-and-file employees. However, it likely will involve considerable administrative burden for employers to track eligibility, comply with the notice requirement, and properly report and withhold on deferred taxable income. Given the administrative complexities associated with Section 83(i), some employers may desire to avoid qualifying for Section 83(i) elections either by plan design or operation of the equity compensation program.