When Should Your Company Issue Restricted Equity vs. Options and When is 83(b) Applicable to Recipients’ Equity?
Since forming your entity, you issued restricted equity to recipients regularly, but you closed a recent funding round. And this week your attorney says you should no longer issue restricted equity, and instead, you need an option plan and to issue options. What is he talking about and why is it necessary? Plus, when should the recipients file an 83(b) election?
Restricted Equity vs. Options
Restricted equity is typically granted and purchased at a nominal value (often, $0.0001) and the recipient purchases and owns all of the equity up front subject to either restrictions on transfer, a repurchase option, or both. Restricted equity …show more content…
Now that you know which vehicle to issue equity through, can the recipient utilize the 83(b) election?
When Issuing Options or Restricted Equity Should the Recipient File An 83(B) Election, Whatever That Is?
Restricted equity recipients, and not option recipients, may file an 83(b) election. Usually, under Section 83 of the Internal Revenue Code, a purchaser of equity that is subject to vesting or otherwise carries with it a “substantial risk of forfeiture” will not recognize income or pay taxes on that equity until the equity has fully vested or until that “substantial risk of forfeiture” has passed.
An 83(b) election accelerates the purchaser’s recognition of income to the year in which the equity was purchased, in an effort to recognize income when the equity is at its lowest value, ensuring that the amount of income recognized, and the taxes paid, is as low as possible, and establishing that amount of income recognized as the purchaser’s tax basis in the …show more content…
Restricted unit purchase agreements or restricted stock purchase agreements are restricted equity vehicles to give a key recipient equity immediately. But the recipient is incentivized to stay with the company because the equity is subject to a repurchase option. If the recipient leaves, the company will apply the repurchase option to repurchase equity that has not yet been released from the purchase option. Because this restricted equity may be repurchased and lost, there is a substantial risk of forfeiting the equity, allowing for the 83(b) election.
But, unlike restricted equity, which is purchased in full at the time of the grant, an option to purchase equity is not considered income until exercised, and the option recipient is not required to pay taxes until the eventual sale of the securities. Because of the delay until the eventual sale and because the option recipient never owns the equity until it purchases the equity outright, there is no substantial risk of forfeiture and an 83(b) election is not
Since forming your entity, you issued restricted equity to recipients regularly, but you closed a recent funding round. And this week your attorney says you should no longer issue restricted equity, and instead, you need an option plan and to issue options. What is he talking about and why is it necessary? Plus, when should the recipients file an 83(b) election?
Restricted Equity vs. Options
Restricted equity is typically granted and purchased at a nominal value (often, $0.0001) and the recipient purchases and owns all of the equity up front subject to either restrictions on transfer, a repurchase option, or both. Restricted equity …show more content…
Now that you know which vehicle to issue equity through, can the recipient utilize the 83(b) election?
When Issuing Options or Restricted Equity Should the Recipient File An 83(B) Election, Whatever That Is?
Restricted equity recipients, and not option recipients, may file an 83(b) election. Usually, under Section 83 of the Internal Revenue Code, a purchaser of equity that is subject to vesting or otherwise carries with it a “substantial risk of forfeiture” will not recognize income or pay taxes on that equity until the equity has fully vested or until that “substantial risk of forfeiture” has passed.
An 83(b) election accelerates the purchaser’s recognition of income to the year in which the equity was purchased, in an effort to recognize income when the equity is at its lowest value, ensuring that the amount of income recognized, and the taxes paid, is as low as possible, and establishing that amount of income recognized as the purchaser’s tax basis in the …show more content…
Restricted unit purchase agreements or restricted stock purchase agreements are restricted equity vehicles to give a key recipient equity immediately. But the recipient is incentivized to stay with the company because the equity is subject to a repurchase option. If the recipient leaves, the company will apply the repurchase option to repurchase equity that has not yet been released from the purchase option. Because this restricted equity may be repurchased and lost, there is a substantial risk of forfeiting the equity, allowing for the 83(b) election.
But, unlike restricted equity, which is purchased in full at the time of the grant, an option to purchase equity is not considered income until exercised, and the option recipient is not required to pay taxes until the eventual sale of the securities. Because of the delay until the eventual sale and because the option recipient never owns the equity until it purchases the equity outright, there is no substantial risk of forfeiture and an 83(b) election is not