jlevy/og-equity-compensation

Stock options, RSUs, taxes — read the latest edition: www.holloway.com/ec

Hi! A bit about me:

Generally, my interests are quite broad but a lot of what I like to think about lies at the intersection of AI, engineering, writing, design, and knowledge tools.

• Recent work: I started and built most of Holloway, a small startup that has rebuilt the digital book publishing process with dozens of in-depth, web-based guides in entrepreneurship, creativity, and personal growth. We also publish print books. I love to talk to authors, experts, and anyone who cares about sharing high-value knowledge.
• Writing: I've written and edited few popular guides (2M+ readers), including The Art of Command Line (with 140K+ stars one of the top 40 most popular GitHub repos of all time), equity compensation, and AWS (was recognized as an "AWS Hero"). I’ve also edited (and published) about a dozen books by other authors.
• Coding: Have loved programming since I was a kid. Was a founding engineer and engineering leader at several startups in AI, SaaS, and web search (some failed, some successful). Wide range of backend eng, distributed sysems, devops/cloud, full stack web/React/TypeScript/JS/Node, Python, Java, C/C++, and yes, also older esoteric things like Lisp and Prolog.
• Tech: I’ve worked on conversational AI systems since early days with the original Siri team at SRI. I’ve built search engines with prominent ex-Google engineers. I have a broad interest in the theory, the practice, and the human elements of software engineering, and the history of software and AI.
• Math and science: When younger, I thought I would be a professor and did my graduate work in math at Berkeley. Even before that, I majored in physics, math, and computer science.
• Inspiration: I believe the purpose of technology is to improve our collective knowledge and intelligence and to solve human problems. The technologist I most admire is Doug Engelbart. His work is as relevant today as it was 50 years ago. By sharing a vision of what was possible, he shaped how we use software for decades. I feel privileged to have met him a few times.
• Random: I like to learn a few things about many topics and many things about a few topics. My interests include good books of all kinds, current culture and politics but in historical context, philosophy, psychology, startups and entrepreneurship, AI (both old school and latest gen AI explosion), product design, typography, software engineering, obscure programming languages, logic and foundations of mathematics, mental and physical health (and their interactions), fitness and nutrition, trail running and wilderness backpacking, natural history (especially of the California mountains and deserts), fingerstyle guitar, 15th-18th century lute music, early American blues, Brazilian Portuguese, truth, kindness, and some other arcana.

Find me:

• @ojoshe on Twitter (best for DMs) and Bluesky
• LinkedIn
• josh at holloway dot com

Please say hello if you think you should! I'd be glad to hear from you if we share interests. If you're trying to reach me, note I sometimes fall behind on messages. I don't mind reminders and more detail or context in a message helps. :)

og-equity-compensation's Issues

Case studies after acquisitions

Suggestion from @dweekly :
Would be nice to have a few case studies about what happens to employees/investors/advisors w/r/t acceleration / retention / earn-outs after an acquisition.

Feel free to drop links or ideas here for future additions.

Cover ESPPs

Clarify when and how often 83(b)'s make sense

The companies I've come in contact with don't allow 83(b)'s, and I think that's been the standard advice from the law firm every VC recommends to every company for a while now.

The guide should mention that if you think an 83(b) is appropriate, it might be something you have to try to negotiate for. (That said, it wouldn't be the first thing I'd ask for.)

Clarify "Stock awards vs ISOs vs NSOs"

Great resource, thanks for writing!

https://github.com/jlevy/og-equity-compensation/blob/master/README.md#stock-awards-vs-isos-vs-nsos

1. In the three examples, you only mention 83(b) in "Restricted stock awards", but not in "NSOs" or "ISOs". I think it would be helpful to say what happens with 83(b) + early-exercised options.
2. "Restricted stock awards" says "1 year past exercise", but what does exercise mean in the context of a grant? Prior, the term has only been used with options.

discuss "Qualified Small Business Stock Is An Often Overlooked Tax Windfall"

is it true if you do the 83b election and hold the stock for 5 years:

https://blog.wealthfront.com/qualified-small-business-stock-2016/

then you might owe 0 federal tax because of the passage of the Protecting Americans from Tax Hikes (PATH) Act on December 18, 2015.

https://waysandmeans.house.gov/more-details-on-the-protecting-americans-from-tax-hikes-act-of-2015/

https://www.irs.gov/uac/newsroom/path-act-tax-related-provisions

Add question about liquidation overhang

The question section is great, but it still leaves a bit of mystery concerning liquidation overhang, so that an employee can reasonably understand what different exit valuations mean for their stake. I'm not sure how to phrase this in a way that would be most likely to get a good answer.

Cover consequences of leaving after early exercise before fully vested

It might be worth noting that a company has the right to repurchase unvested shared if you early exercise and quit/get fired but that they won't refund any taxes paid. While early exercising can reduce your tax burden it can also increase it.

Review/include notes from tldroptions HN post

https://news.ycombinator.com/item?id=14463260

Some articles on secondary market from Industry Ventures

Consider including a couple of these in secondary coverage:

Employee Liquidity - good for private companies?
by Hans Swildens & Ira Simkhovitch

Selling Private Company Shares 2.0
by Hans Swildens & Kunal Jain

A Graceful Exit - Managing Shareholder and LP Liquidity
by Hans Swildens & Ira Simkhovitch

The Elephant in the Room: Hedge Funds and Mutual Funds
by Hans Swildens & Kathleen Collins

The New Normal: Secondaries and the 409A Valuation Process
by Ira Simkhovitch

_Time's Up! Options for VCs and LPs When Funds Reach the End of Their Term _
by Justin Burden & Lindsay Sharma

The Art of the Corporate VC Divestiture
by Hans Swildens & Ira Simkhovitch

Limited Partner Secondaries and Signals of Defaults
by Hans Swildens & Amir Malayery

Back at the Table: Public Market Investors Return to VC
by Will Quist & Lindsay Sharma

Graphic illustrating fundraising and dilution

Such as: http://ownyourventure.com/

Cover tax implications after exercise when company is acquired at a loss

Example:

• exercise at strike price $x
• pay AMT tax on bargain element
• hold shares n years
• company acquired for less than overhang, common stock is worth $0

Questions:

• Is it possible to claim the loss of share value as a deduction or credit for tax purposes?
• What form(s) used for this? Possibly an 8949?
• What tax documentation is the company required to provide to shareholders in this scenario? Is it possibly a 1099-B?
• Is it possible to get any deduction or credit for the AMT previously paid?

Add examples of offers?

Seems like more concrete examples of how to evaluate or negotiate offers could help.

Should we add these? What examples? Or it may be better there good posts that could be linked to.

Cover new, longer exercise windows

Some companies are no longer expiring stock options 90 days after leaving the company.
E.g. https://amplitude.com/blog/2015/12/01/employee-equity-is-broken-heres-our-fix/

More links on hiring disparities

We need to assemble more thoughtful studies and overviews to link to on disparities and diversity in hiring. Narrowing it down to a good set is a challenge. This is an issue is to track links.

Some examples:
https://iwpr.org/publications/gender-wage-gap-2017-race-ethnicity/
http://www.pewresearch.org/fact-tank/2016/07/01/racial-gender-wage-gaps-persist-in-u-s-despite-some-progress/
https://hbr.org/2016/12/research-how-subtle-class-cues-can-backfire-on-your-resume

Correction on "restricted stock" (from Hacker News)

Copied from @grellas on the HN thread https://news.ycombinator.com/item?id=10880726

This is generally a nice guide for anyone wanting to get an overview of equity compensation issues affecting startup employees.

There is one error I caught, where it says that "restricted" stock is called "restricted" owing to the fact that securities laws restrict one's right to resell such stock.

While it is true that the securities laws do use this terminology to describe the stock of closely-held companies (and in that sense the use of the term of is accurate), all common stock granted in a closely-held company is restricted in this sense, whether or not it is subject to vesting - that is, it must generally be held for a stipulated period as set forth under Rule 144 before it can be resold by the recipient (Rule 144 technically applies only to public company stock but applies by analogy to that of closely-held stock).

In the startup context, "restricted" stock refers to stock that is granted to a recipient but made subject to a repurchase option by which the company may repurchase it at cost on termination of a service relationship. That is, the stock is subject to a substantial risk of forfeiture until it vests. For tax purposes, such stock is not deemed to be owned, and is not subject to tax, until the risk of forfeiture goes away (i.e., it vests). This in turn creates a substantial tax risk to the holder of the stock because there is an immediate tax on the value of the spread (difference between what was paid for the stock and its fair market value at each vesting point), a risk that is eliminated if a timely 83(b) election is filed within 30 days of grant but not otherwise.
If stock is granted without any vesting requirements (i.e., an outright grant) it is referred to in common startup parlance as an "unrestricted" grant. Such stock is "restricted" stock in the securities law sense that it generally can't immediately be resold or transferred without complying with the Rule 144 tests. But this is a technical issue for the lawyers. For every practical purpose relevant to founders and employees, it can be treated, as the street parlance says, as an "unrestricted" grant because there are no vesting requirements.

Sorry if this is too technical for this thread. But this is an important technical point that is mis-stated in this guide.

A brief observation: when stock options first became widely useful in the startup world in the 1980s, ISOs conferred a huge benefit to employees because you could be assured that you could exercise them when they vested without any practical tax risk whatever. Over the years, however, AMT, though first enacted in the 1960s as a "millionaire's tax" to ensure that the wealthy could not easily manipulate tax deductions to avoid paying any tax whatever, evolved into a general catch-all tax that is now used to fill serious deficiencies in the U.S. tax code and that now ensnares many people making pretty average incomes. Once that happened, it effectively killed many of the once-very-special tax advantages of ISOs for employees and turned ISOs into a form of equity compensation that are only slightly more favorable for employees and are often a real disadvantage (for example, the notorious 90-day tail for exercising vested options on termination of employment derives directly from tax-code rules imposed as special restrictions on ISOs alone but today functions to entrap many employees into having to stay in undesirable employment situations far beyond what they intended on pain of losing their vesting options altogether if they quit).

A final theoretical observation on best types of grants in order of preference: first, unrestricted grants (here, you own it all and can't theoretically ever lose it and you usually have zero tax risk while trying to hold for long-term capital gains); second, restricted stock at a cheap price with a timely 83(b) election (while it vests, and you can forfeit it, the tax picture is near-ideal in giving you a path to long-term capital gains tax treatment with no landmines along the way); third, ISOs with a low strike price and an early exercise privilege (with these, you exercise early, file an 83(b) election, and in effect get the equivalent of a restricted stock grant); fourth, ISOs or NQOs without a 90-day tail on termination (these give you maximum flexibility to trying to work around or at least postpone potentially detrimental tax events while being able to wait as long as 10 years before being at risk of losing vested options); fifth, and worst of all from a tax standpoint, RSUs (which really are a super-high-value startup's way of granting very nice bonuses to employees in situations where the very high price of its stock makes it tax-prohibitive to use any other more favorable equity compensation vehicle). Of course, this is theoretical only and you get what you get in the real world depending on whether you are a founder, an early-stage employee, or a later-stage employee and depending as well on what is negotiated with investors concerning any restrictions they may insist upon as conditions to their investments.

Just a few thoughts on what is, overall, a nice guide to equity compensation.

More comprehensive list of secondary buyers

Include more focused investors for liquidity:

http://137ventures.com/
https://employeestockoptions.com/
https://www.akkadianventures.com/
http://www.industryventures.com/
http://www.atlaspeakcap.com/
http://www.founderscircle.com/

as well as existing ones listed with bigger marketplaces:
https://equidateinc.com/
https://sharespost.com/
https://equityzen.com/

What does writing a check really mean under `Exercise and hold` option?

Quoted from the guide:

Exercise and hold: You can write the company a check and pay any taxes on the spread. You are then a stockholder, with a stock certificate that may have value in the future. As discussed above, you may do this “early”, even immediately upon grant, before vesting (if early exercise is available to you), sometime after vesting, or after leaving the company, as long as the exercise window is open. Recall that often the window closes soon after you leave a company, e.g. 90 days after termination.

Can the company encash the check at any time?
If yes, then why is this a good option to take for stock options that have not even vested and may not even be worth much even after vesting? The check itself could be of a significant amount and there may be taxes to pay even after that.

OR

Does it have to be done solely for the sake of agreement over the transfer of stock and only in special circumstances the check will be encashed?
If this case, what are the special circumstances involved here?
Should an employee seek such an agreement in writing before handing over the check?

Reference eShares offer letter blog

Worth mentioning/linking to.
https://medium.com/@henrysward/a-better-offer-letter-4e9bf61a7365#.mwb90jh1s

409A Valuations -- timing

"When stock vests, or you exercise an option, the IRS will consider what the fair market value (FMV) of the stock is when determining the tax you owe."
409A Valuations are all about the fair market value (FMV) of the stock when it (or the option) is issued. The value when the stock vests, or you exercise an option is not relevant.

Mention tax form numbers

It would be nice to have an item or subsection in the tax part listing common tax form numbers.

Clarify "manager" compensation level

See https://github.com/jlevy/og-equity-compensation#typical-employee-equity-levels

The equity levels in http://venturehacks.com/articles/option-pool-shuffle#market list "Manager or Junior Engineer" as the same level. This seems odd, and vague as to what type of manager is being specified.

An engineering manager could have significant equity, for example, but a project manager less.

How can we fix this?

Add examples of exercise decisions?

Based on reader feedback, it seems like some concrete examples of decisions such as whether to early exercise would be helpful.

Should we add these? What examples? Or it may be better there good posts that could be linked to.

Mention QSBS tax break

This one is complicated but probably worth mentioning.
https://blog.wealthfront.com/qualified-small-business-stock/

Tax situations when exercising ISOs when the FMV is lower than strike price?

Let's say you have ISOs in a non-public company, and the FMV is now lower than your strike price. What are the tax consequences or benefits?

More info on "one-time forgiveness" of exercise AMT?

The "Tax Gotchas" section states that "Congress to grant a one-time forgiveness" for exercising and incurring AMT: https://github.com/jlevy/og-equity-compensation/blame/master/README.md#L1077. I'm interested in reading more. For example, when can one use this? One way to help give more information could be to add the name of the rule or a link to more information? I was unable to find what this is if it is still active. Perhaps this is the 2007-2012 Refundable AMT Credit? (eg, https://www.investopedia.com/articles/tax/09/refundable-amt-credit.asp#understanding-refundable-amt-tax-credits)

Thanks!
Chris

Update year of tax brackets

The income bracket in the tax basics section now points to the 2015 income bracket distribution from the Tax Foundation.

It should point to the most recent brackets, 2018

Mention extended exercise windows

See https://github.com/holman/extended-exercise-windows

Cover taking a capital loss if you early exercised and stock is underwater

Cover whether your stock is sec 1244 stock or not.

https://www.thetaxadviser.com/issues/2009/mar/claimingordinarylossesforsec1244stock.html

Expand guide to cover countries besides the US

Great guide, would be awesome if you could split the guide where international content is available, so that people outside of the US could use that as a future reference without having to go through specifics in the US law - taxation etc.

Add tips from @cjc

https://twitter.com/cjc/status/984094472190349312?s=12

Consider mentioning captable/modeling products

(Broadening #67.)

optionvalue.io
captable.io
etc.

What others deserve mention?

Create Book via gitbook out of it

I would suggest to keep the project here, but publish it with https://www.gitbook.com/ so it will be readable with different devices and easy to download.

Review/include common issues yossorion article

https://gist.github.com/yossorion/4965df74fd6da6cdc280ec57e83a202d

Add new discussion re 10 year exercise windows

Two notable posts to link to:
http://a16z.com/2016/06/23/options-timing/
https://dangelo.quora.com/10-Year-Exercise-Periods-Make-Sense

Better coverage of what restricted stock awards are

We cover this but not super explicitly, and I've heard questions on how they work.

Possible link: http://avc.com/2010/11/employee-equity-restricted-stock-and-rsus/

Other links?

Mention warrants

Mention briefly just for context.

Explain option splits

When my company had a series B, our existing options were split - I believe this is done to make a larger pool of shares? Don't really know. The total of exercise price times number of options stayed the same, it was just more shares at a lower price.

It would be great to say something about how such splits work - why they happen, and how they can affect the employee. When it happened here, I remember talking to some people about it and we all basically ignored it, thinking that the total product was the same, therefore nothing had really changed. We were thinking about it like this:

              Shares  Exercise price  Total exercise cost
pre-split      1,000           $1.00                $1000
post-split    10,000           $0.10                $1000

But at the same time, while the FMV per share went down, it didn't go down by anywhere near the same ratio - the total valuation of the company was higher. That sounds great - we have options in a more valuable company, yay! Except that after talking to a tax professional, I found out that the theoretical net gain, of (FMV - exercise) * shares, is used for AMT calculation. So the cost of exercising the day after the series B was a lot higher than the day before the series B. Ouch.
Something like this:

              Shares  Exercise price  Total cost  FMV/share   Net gain for tax calculation
pre-split      1,000           $1.00       $1000      $2.00                         $1,000
post-split    10,000           $0.10       $1000      $1.00                         $9,000

Phantom or psuedo-stock

We should mention this kind of thing somewhere.

Is "phantom stock" the standard term?
See also http://www.forbes.com/sites/dking/2013/10/15/why-phantom-stock-can-be-better-than-real-stock/

From justinmk on https://news.ycombinator.com/item?id=10880726:

The private company I work for issues stock "promises" on fancy certificates. Each certificate claims to be worth X shares for an estimated value of Y.
Clearly they are not stock options, nor RSUs nor anything fancy or official like that. They are just fancy certificates with unverifiable claims. Is there any legal or financial value to these things? Is there a name for these types of pseudo-stocks? Where in the linked article is this discussed?

Suggested content for this topic is welcome.

Good tax graphic(s)

Include inline a graphic showing tax brackets in a clear way, a bit like https://www.reddit.com/r/personalfinance/comments/2wkbgz/graphing_one_misconception_about_tax_brackets/

Would be even better to have a graphic that also shows long-term cap gains and employment taxes, too, for comparative size.

Options outcomes worksheet

I made this google doc spreadsheet a while back, seems like it would be useful: https://docs.google.com/spreadsheets/d/1L-hwCRXKDwmOPqXCwQo4DM1cERYSgBIHM6Sp_Mye1Gc/edit?usp=sharing

The inputs are your equity percentage, the exercise cost, and the opportunity cost estimates (reduced salary, unvested equity being left behind, etc)

It takes these inputs and produces a grid of what your options would be worth at various dilution and valuations at an exit event, after subtracting out the exercise costs. Then it colors the cell red or green depending on whether or not such a scenario would "beat" the opportunity costs. Obviously it won't tell you if your individual situation is going to be a good idea (because it can't predict the future) but I find it's handy for evaluating the various outcomes that could happen, and if you'd do well in most cases, versus just doing well in exceptional ones.

My questions are:

1. Is this something that would be good to include in this guide?
2. If so, idea about how to include it. Right now just a link doesn't integrate with .md or github well, and the "source" document is tied to my personal google account, then people have to make a local copy of the read-only document to edit the inputs.

Include more detail about valuing options

Perhaps the tables or graphs from http://codingvc.com/valuing-employee-options/

Review/include commentary from Unicorn gist HN post

https://news.ycombinator.com/item?id=13426494

Coverage for Canada

This issue is to track writing of a supplement to the guide that lists everything specific/different in Canada. Follows on to #26.

This could be a single new section, or if it becomes excessively long, a new file.

In the short term, we won't change the US bias of the original file, but once this is written, it will be easier to tease out the common parts and separate out sections for each country.

Mention advisor vesting schedules

Since these often differ from the usual 4-year employee schedule.
And include info from https://fi.co/contents/fast

Discuss authorized vs issued shares

Discuss how authorized shares differ from issued shares, and are essentially meaningless. Also mention when/how numbers that appear in official paperwork are for authorized.

Permission to Exercise

I'm not sure how common this situation is but some companies now require 'permission' to exercise your vested options. It would be nice to have more details on this type of situation.

Section 1202

Section 1202 applies to early employees and investors. It has to be a C corp in a technology field. The company must have $50 million or less in assets. It also applies to investors who qualify for 10 times the aggregate adjusted bases per taxable year.

Examples of good and bad outcomes

This story is illustrative: http://www.nytimes.com/2015/12/27/technology/when-a-unicorn-start-up-stumbles-its-employees-get-hurt.html

Any others like this worth linking to?

Mechanics of administering stock

More on how and when certificates are issued, etc. When you should expect to actually see a stock certificate.

Add note about 83(b) no longer being required with return

It used to be you had to send the 83(b) with the return in addition to filing with the IRS at the time of election, but this changed in 2016. https://www.thetaxadviser.com/news/2016/jul/regulations-eliminate-sec-83b-filing-statement-requirement-201614887.html