The Advisors' Blog

– Liz Dunshee

I’ve blogged about the secondary market for private company equity awards. This blog from myStockOptions.com looks at innovations in private company awards that help ease tax obligations, which – notwithstanding new(ish) Internal Revenue Code Section 83(i) – can be burdensome to employees due to the lack of a market for the shares. Here’s an excerpt (but check out the full blog if this is your jam – and see this article for detailed survey results of private company executives’ “total compensation”):

One big difference in private companies is the illiquidity of the stock. Employees cannot sell shares at exercise or vesting, even to pay the taxes owed on the income recognized. This lack of liquidity, along with securities-law restrictions on resales of stock, does not delay the tax-measurement date at option exercise or restricted stock vesting.

Given the vastly differing liquidity situations of private and public companies, having the same tax treatment for stock grants at pre-IPO and large publicly traded companies seems out of balance. To address this issue, a provision in the Tax Cuts & Jobs Act (tax reform) created “qualified equity grants” for private companies under the new tax code Section 83(i). While this alters the standard tax treatment when various conditions are met, in its current form this provision will get little use. (For details, see our past blog commentary on it.)

However, long before this provision came along, smart lawyers and accountants had already come to the rescue. Operating within the existing tax laws and IRS regulations, they developed new structures for stock option grants and RSUs at private companies that work around the standard tax treatment. You can see this widespread use in a review of the Form S-1 registration statement filed with the SEC by Uber Technologies (April 11, 2019 draft), and in the effective registration statements for the now-public companies Lyft, Pinterest, and Zoom Video Communications.