Startups and Equity?

[Slava]

I'm not an accountant, as you know, but I do deal with a lot of these things on a day to day basis as well. If you want to PM me with specifics feel free.

If these are US shares though, you ought to be aware of the US dividend withholding tax (15%), if you will get any. Frankly you probably have no concerns with that because a startup paying dividends would be ridiculous, but I suppose down the line it would hopefully matter.

Like jaydorn says there are a slew of structures out there, but they are usually fairly straightforward.

[Calgary14]

Pretty sure the lifetime cap gains exemption is only for CCPCs (Canadian private co). As far as tax someone mentioned above the 15% withholding for foreign income. In my experience capital gains (on options) are usually the best route as only half taxable and the halftime that is taxable is at your marginal rate. So if you had a huge gain you could dispose of the shares over a few years to spread it out and effectively lower your average rate

[Slava]

Originally Posted by Calgary14

Pretty sure the lifetime cap gains exemption is only for CCPCs (Canadian private co). As far as tax someone mentioned above the 15% withholding for foreign income. In my experience capital gains (on options) are usually the best route as only half taxable and the halftime that is taxable is at your marginal rate. So if you had a huge gain you could dispose of the shares over a few years to spread it out and effectively lower your average rate

That will only work to lower your rate if you are in a lower bracket, and then sell just enough to stay in that bracket each year. Otherwise, say your MTR is 39% in Alberta, you will pay half of that regardless of whether it's all at once or over a few years.

[TurdFerguson]

I get pitched equity as a form (full or partial) compensation a couple times a year. It’s an easy concept to toss around but in my experience the sophistication of the conversation is usually a great indicator as to the sophistication of the company/people making the offer. Couple questions/thoughts that always go through my head when presented an opportunity:

-why are they offering me equity. What do they want/need that they are unable to buy? Why are they not buying that service? Do they want a partner or are they just strapped for cash – very different things.

-how did they decide on me?

-is there a business plan in place or is it an idea…ask 10 people and you’ll get 11 stories on great ideas. Business are made on execution not ideas (generalizing a lot here, I know).

-what is my LOE to achieve the equity? What is my role and what are the expectations after that?

…I could go on and on here but the idea is, vet the business and offer. As someone else pointed out, if you were starting the company from day one with these people and with this idea, would you be interested?

If things check out and you want to get involved then it’s really worth your while to do some research and involve a lawyer. If the business busts then it’s all a waste but if anything material comes of it you want paper and to know what rights you do and do not have. Error on the side that would piss you off the most.

-Unanimous Shareholders Agreement is a must. Know what it is and how it impacts you in the business and exit.

-formal agreement that outlines services provided for equity received. My advice is always to get the equity from day one and give the company the ability to repurchase it if services are not delivered. Reverse vesting. This way you are not subjected to potential tax burden if the company’s value increases from the time of engagement to completion of service.

-understand the company structure (shares, classes, dilutive rights, director rights etc.). Negotiate for what you need.

-understand the financial position of the company. Statements and couple quick checks from your Lawyer.

I could go on and on…PM me if you have specific questions. In general though, equity is meaningful. If you or the company don’t treat it that way and are unwilling to do the appropriate due-diligence and paper then I wouldn’t associate much value to it.

/2cents

[Wormius]

Good points.

I think in some was they're almost used as a tech. sector equivalent of an unpaid internship. And when you're young, it's pretty exciting and enticing to get shares or options.

Could you clarify about the unanimous shareholder agreement? Is that with respect to the company board of directors being greedy once an exit event occurs, and reneging on the options?

In my situation they're more of a retention strategy, which is fine. Given the number of outstanding shares and what my options are set at, I don't think it would be anything mode significant than a larger than usual bonus.

[TurdFerguson]

USA is only really relevant for a small number of shareholders. It outlines how shares and Shareholders move in and out of the company and what rights you do and do not have as a shareholder. It intended to provide a basis for joint understanding on a go-forward basis. In practice though they are almost always viewed as a means of controlling buy/sell scenario and a dispute resolution mechanism.

If your company is using options as an incentive it's different. You really dot have much to negotiate with options in terms of rights etc. only the value of options vs. salaried compensation.

Not sure that helps at all.

[Wormius]

That's helpful, actually. I didn't really know there was a differentiation between employee retention stock options and others, although it was always in my head that it wasn't really something I had a "right" to, once they were granted.

[FlamesPuck12]

Originally Posted by Table 5

Thanks for the feedback guys.

For me, this is more of a bonus situation, not something that's in lieu of regular payment. I still charge pretty much my regular rate (maybe a little less), and the equity portion is more of a bonus. So even if the company doesn't go anywhere, I typically have 90% of my usual fee anyway.

I guess I'm just trying to see what the most ideal position is for someone to have. I usually come in at an early stage (since I do identity/branding/naming), so there probably is typically the option to negotiate for something more ideal...I just don't know what that is. In California, where a lot of my clients are, this stuff is pretty common, but Im just not as familiar with the terminology and what means what.



That makes sense. Do you have an idea of what the tax implications are? if you get say 5% ownership, and there's a certain value attached to it, does that mean you have to pay taxes right away, or only when there's some sort of profit made?

What Im trying to avoid is having to pay taxes before there's actually any sort of money in my pocket, because obviously you never know if it will arrive.

I'm not a tax expert or an accountant but I have some basic idea on how it works since I'm currently dealing with similar problems. You should definitely talk to a tax planner since there are various implications that you might be dealing with when you do accept the options.

So if the company is granting you options, you don't actually own anything until you exercise the option. I assume there's some kind of vesting schedule that is involved with your options.
After your options are vested and exercised, they are yours, and the terms of being able to sell the stocks are different between companies (whether you have to wait for a liquidation event or not).

In terms of the tax implications, when you exercise the stock, you owe AMT. For example, if your strike price is $10 and the fair market value when you exercise the option is worth $15, each option you exercise, you've gained $5 theoretically. So now you technically own the stock but you might not be allowed to sell it.

Another interesting thing to look at is early exercising your options. You don't have to wait until the stock vests to exercise the options. If you early exercise your stocks shortly after you join, your "on paper" gains are going to be very low since the difference between the strike price and the FMV isn't going to be much over a couple days/weeks so you can minimize a lot of your AMT. Of course, this means that you will have to spend your own money up front to buy those options and that you don't actually own them until they vest.

Anyway, here's a good overview regarding stock options: http://blog.alexmaccaw.com/an-engine...-stock-options