Don’t Tax Options and RSUs Upon Vesting
avc.com
avc.com
The latest analysis I saw of this from Fenwick says that this is only applying to non-qualified stock options. Employees get NSOs when you vest too much to get ISOs in a calendar year, based on the vesting schedule and value at the time of grant, not fair market value at time of vesting of the option. That limit is $100K, for people who didn't know.
[edit: clarified the issue of cap calculation since my original post was in error. The point doesn’t change.]
Who else gets NSOs? Non-employees, like directors, for instance.
This tax bill is pretty awful. However, it's not obvious to me that it destroys startup compensation -- ISOs will still be given to most employees, until you are getting too big for them, when you get RSUs, just like today. If anything your average tech employee will potentially do better -- I had to sell a ton of stock simply to pay AMT on the rest of the stock I exercised at my last startup. AMT goes away in this plan, so people won't have to deal with that issue.
Really, if you think about it, it could only be this way. You can't predict the future value of your company. If I give you an ISO grant now, but the company doubles in value next year and puts you over the cap, we're in a pickle.
>“Similarly, awards with vesting triggers based on exit events such as an initial public offering or change-in-control would be taxable on grant unless they require the recipient to be employed through the liquidity date.“
From Fenwick’s analysis.
[1] http://www.naspp.com/blog/2009/08/iso-100000-limitation.html
That's... not rare at all. For a company with a $5 million valuation, you only have to be offered 2% of the company in order to hit that cap. An early employee could easily hit that. And of course, as the company grows, it becomes easier and easier to hit that cap, because it's based on an absolute dollar value (the valuation of a company will always grow faster than the percentage offered will shrink - or to look at it another way, if it doesn't, you probably don't want to exercise those options anyway, so the conversation is moot).
It's not a linear limit - it's a fixed (constant) cap, but yes.
This doesn't mean you can't receive more than $100,000 in options, but it does mean you'll be taxed on those as NSOs, which is much higher.
Also, note that because of the cliff, you receive your full first year on a single day, which means that your second year's worth of options are much more likely to exceed the ISO cap and auto-convert to NSOs.
Later, when a company is close to going public, normal packages will often have less growth in valuation assumed and so it becomes easier to hit the cap as a regular employee. That is not coincidentally the same time companies switch to RSUs.
(Someone made the point elsewhere in this discussion that inflation will render the cap more of an issue as time goes on. They have a real point, I think. Combined with inflated A rounds this may start to be more common than it has been in the last 20 years.)
Yes, I said in my original comment that it becomes easier to hit the cap as the company grows. However:
> It’s very rare to be offered more than 1% of a company that is already worth $5M. The people who get offers like this are, it turns out, the ones complaining about this tax law most loudly. They are not run of the mill employees.
This is not true. It's not really that rare for a first hire to get 1% or more[0], and it's also not that rare to have a company that makes that first hire after raising enough money to be valued at $5M. I say this as someone who has been both a founder and an early-stage investor.
But more broadly: most of the people who are complaining about this cap (and complaining the loudest) aren't the early employees. They're the ones who joined later - late enough that they're likely "only" to double or triple the value of their equity by the time an IPO happens (unlike early employees), but still early enough that there's no IPO or acquisition on the horizon[1].
[0] http://avc.com/2010/11/employee-equity-how-much/
[1] Which, given the increasing tendency of large startups to delay IPOs "indefinitely", basically means "any employee of a privately-held company".
> The proposed bill leaves Section 422 of the Code, governing the taxation of ISOs, untouched, apparently exempting it from new Section 409B. As a result, ISOs may continue to offer employees eligibility to receive favorable tax treatment by deferring taxation until sale
However, it is intended that statutory options are not considered nonqualified deferred compensation for purposes of the proposal. An exception is provided for that portion of a plan consisting of a transfer of property described in section 83 (other than stock options) or which consists of a trust to which section 402(b) applies.
Page 209 of https://www.jct.gov/publications.html?func=download&id=5031&...
But I'm not sure how this impacts ISOs with an 83(b) election.
Today, ISO’s are commonly given to engineers at pre-IPO startups. Nothing says they have to go to execs. Those engineers end up holding them for years before they can exercise, so $100K is a small fraction of a normal Silicon Valley startup, when you divide it out. Many startups take 6-10 years to IPO these days.
Source on $100K cap: stock plan admins at work, and also this article: http://help.capshare.com/knowledge-base/what-is-an-iso-100k-...
Please do not comment on technical nuances of the tax code you do not understand. Misunderstandings around this stuff bankrupts people all the time. (especially the type of people that hang out here!)
This is not correct. The $100k threshold is calculated based on the fair market value of the option at the time of grant, which by definition is the exercise price. So you calculate how many shares you will vest in each year, multiplied by your exercise price, and as long as that is under $100k you are not over the limit and your option remains an ISO. If you're over, then the portion that exceeds $100k is treated as an NSO, but you can still get ISO treatment on the other part.
I'm a startup lawyer and having worked with 100+ companies on their options, it's really not that common to get tripped up on this.
Did you get W-2s with withholding at this place?
The main thing you missed out on was the ability to 83(b) exercise. If you don't know, that is something you can do in the first 90 days following the stock grant, where you write a check to the company (usually some administrator the company designates) that exercises at the same value as what the grant was written at. That means you 1) don't have any capital gains to worry about, which with AMT can be a big deal, similar to NSO treatment and 2) start the long term capital gains clock, so you are potentially taxed at a lower rate than ordinary income.
Since it sounds like this startup went out of business (?) I think you were essentially treated as well as possible.
Or, if you plan to early exercise immediately upon receipt, you actually are better off with an NSO (due a shorter holding period for long-term capital gains treatment and there being no spread between exercise price and fair market value at the time of exercise), so sometimes you will see that too.
Or, if you want a longer than 3 months exercise period post-termination, you'll do an NSO instead of an ISO.
But otherwise, yeah, maybe just a mistake.
Strike and option value are not the same thing. (Not sure which one this bill refers to.)
> The $100,000 limit is calculated using the fair market value of the stock for which the options are exercisable, as of the grant date...
IOW — value at time of grant, not time of vest.
cough. Sound advice, sound advice.
That’s an interesting point. They are and they aren’t. Cash as in actual dolla dolla bills they are not. Cash in terms of GAAP liabilities they are. But “stock-based compensation” is generally the largest part of what public tech companies exclude when they report non-GAAP earnings. And the lion’s share of those will be RSUs.
Why do companies think this is a reasonable way to report? (Other than simply trying to look better for non-experts who don’t know how this stuff works.) The most obvious reason from my perspective is that this is a variable cost that is already baked into the model. The variable part is obvious — if I make a promise to give you 300 shares the value side is going to change over time. If our earnings are crappy and everyone sells the stock (to who?!) then the value of your compensation has just dropped. The cost side is also weird — these shares aren’t bought on the open market at time of vest, they are in employee pools that are set aside ahead of time (in fact my understanding is that the usual terms of an RSU require the stock to be set aside at time of grant). So theoretically they should cost whatever the fair market value is at the time the pool was created. Either way they aren’t cash that left the company’s bank account and went to the employee, like regular compensation.
Accounting is hard!
Practically, ISOs today are used primarily for two reasons beneficial to founders and investors: to pay employees in dreams rather than cash; and to claw back compensation from employees who leave the company (most employees who leave will never be able to exercise their options).
Some companies are extending that deadline to 7 years, but the IRS disqualifies ISOs 90 days after departure so they have to convert to NSOs.
So this would prevent companies from providing an option extension.
(Is the proposed law even clear about how this would work?)
Anyone that has options at a company that grows quickly would be paying tens or hundreds of thousands in taxes to keep their equity, which is still effectively a very risky bet that a company will end up huge.
No one would want options anymore, which would make it impossible for startups to compete with large, cash-rich incumbents. That should be the last thing you want if your goal is for an economy to grow.
In this case, it also gives a fair number of people a bigger tax headache. In some cases, taxing earlier may mean future gains become capital gains when they may have been ordinary income; that's not good for tax revenue, even if you get some of it sooner.
It stands to reason that they recognized NSOs/ISOs being used heavily (perhaps more than anyone else) by tech firms but this just seems like a recognition that wealth taxation woefully needs reform. The estate tax is being retired so this seems to balance it out.
So taxes on people that work for a living are raised to pay for eliminating the estate tax multi-millionaires?
IMO it's not partisan, it's just business.
further, this already happened once with AMT and Dotcom 1.0, leaving a bunch of rank and files with huge tax bills for profits they never actually reaped.
In that case, it would meet that goal very well.
What a pity it is that the technical talent, who might prefer lucking into big piles of windfall cash by working for the right unicorn, has no big national organization to lobby in favor of our interests, and speak out against this type of change. (If you're one of the folks that knee-jerk downvotes any mention of tech worker unions, that's what I'm talking about, so let's get that click out of the way.)
As an aside, how many companies do you see actually building Snapchat for Etsy-linked tumblr posts? I see that criticism of Silicon Valley all the time, yet despite being in the heart of it I rarely see that kind of company. I’d guess an order of magnitude more money is going into building human transporting drones and supersonic jets than into the silly stuff people love to rail on the Valley for.
Look at the list of startups that just came out of YC and you’ll see maybe one or two companies that fit that kind of mockery.
But I don't get options or RSUs, or even cash bonuses. I get billed to a customer at $200-$400/hr and get maybe $50-$60 of that in total compensation. It's hard to tell, really, because my employers keep getting sold to other companies that proceed to change around the benefits plan. The details aren't very important. Those companies are getting a whole lot of money, and they are giving a smaller proportion of it to the leaf node workers, and a larger share to administration, management, business lubricators, and bureaucracy. The tech industry has very little political-economic clout outside of the handful of cities considered to be tech centers.
I'd love to have an alternative to that, beyond moving my family at least 500 miles away. Again. But that SV money is mostly staying in SV. It isn't going into helping out the industry in the rest of the country, or the rest of the world. It isn't spreading business opportunities to local economies outside of central California and the Pacific NW. SV has done little for me beyond offering me new things to buy. They have not given me the additional local economic activity that I'd need to buy them.
(That's not strictly true. SV has also exported business practices that get cargo-culted everywhere, usually to my detriment.)
I have zero reasons to support the small businesses of Silicon Valley. They can go piss up a tree, because even in a hurricane-force gale blowing directly east, it still won't land anywhere near me. I also won't ever be in a position where I'd actually be able to move there, and it seems the culture has an unnatural aversion to spreading itself somewhere else. So choke on it. SV is competitive with my local tech community, rather than cooperative, so crippling its startups and small businesses helps ours, even at the expense of a smaller overall tech economy. I'm fine with a smaller overall pie, if I get a bigger slice on my plate. I'd only care about bigger pie if there are bigger slices for everyone, not just the ones closest to the ovens.
So by all means, make options and RSUs untenable, and dry up the H1Bs, and let the major players collude with anti-poaching agreements, and let the NIMBYs drive up housing prices. I want Silicon Valley to fail, because in its success, it has been leaving me behind. It will take my money, but won't give it back by spending it in somewhere in my neighborhood. If the only way to claw that back is to vote it out of someone else pocket, so be it.
Edit: Besides that, it's a bit ironic that those working on defense systems like THAAD and Aegis and C-RAM and Iron Dome are largely out of range of North Korean missiles, while the NK propaganda videos depict the atomic destruction of San Francisco and all of its peacetime-tech startups. Pork barrel military-industrial spending might be wasteful, but it does spread the wealth to a lot of people who are otherwise completely ignored by the investment sector.
Why? I'd much rather actually deliver something to the client, even if...
> I get billed to a customer at $200-$400/hr and get maybe $50-$60 of that in total compensation.
Then it sounds like everything else around what you deliver is worth at least $140-350/hr. If it's really so easy I'm sure you could offer your services for $100/hr, take a nice big raise and save your clients hundreds of thousands a year.
> it seems the culture has an unnatural aversion to spreading itself somewhere else
Because even for a culture that bitches and moans about how old school business ways are out dated, they still insist you be within a 2 hour drive of your investors, so that when Ashton Kutcher gets mad at someone he can yell at them in person instead of over ~~email~~ ~~hipchat~~ Slack.
> It will take my money, but won't give it back by spending it in somewhere in my neighborhood.
Stop buying shit from startups
Not everyone wants to, or is able to strike it out on their own.
I would need a non-technical co-founder that I could trust to not stab me in the back, and an investor willing to give us enough runway to take off without putting any land mines in it. So far, those conditions have never been met. Business around here is very often more about who you know than what you can do, and since I don't know the right people, those customers are simply unavailable, even at a deep discount to $100/hr.
All that overhead is necessary to navigate the system that has been set up to favor those that support the system. The bureaucratic hoops are insurmountable barriers to entry to individuals, and very steep even for a hypothetical small company that is 51% owned by a disabled Indian veteran woman. It wouldn't be much of a military-industrial complex if it could be disrupted that easily. The "clients" are far less interested in saving money than with preserving their influence over the nature of the work, an end often pursued by spending every penny of the allocated budget, regardless of need.
A union could change it. A U.S. attorney with a forensic accountant, TS/SCI security clearance, and a stack of subpoenas could change it. A political party could change it. A handful of generals and admirals could change it. One software pro, working alone? Not so much.
This is really the best deal I can get right now, without dropping everything and moving again. It isn't great, but it is available to me, and I don't have to front capital, work owner-manager hours, or do types of work that I am not comparatively good at doing.
Besides that, I have already failed at going it alone once, and once was all I could afford. I didn't make it, and lost everything. The work was good enough, but not enough people wanted to buy it, and not enough customers recommended it to their friends. So that runway is gone, and I'm stuck workin' for The Man until I can retire. In retrospect, I would have been far better off not trying. But that's all anecdotal. You might succeed on your own. Maybe I just didn't work hard enough.
You don't need to "front capital", or work special hours, or have a special clearance, jesus. Just don't live paycheck to paycheck and stash away a few months expenses while you do your thing. Thousands of professionals do this on a regular basis. IMHO employment is much more risky and cutthroat. You don't get to set your salary, end up with disadvantaged tax treatment, and half of your coworkers are focused on crawling up an artificial ladder instead of actually completing work on time.
The math works out. I, specifically, am better off as an employee. I already took my shot at self-employment and blew it. I won't get another. I'm lucky that I even got one.
If I still lived in an area with more potential customers, with more money, the story might be different. If I wasn't absolutely crap at sales and administration, the story might be different. If I were better able to build a network, such by being more attractive or having better social skills, the story might be different. If I weren't still paying off debts from the first time around, the story might be different. But it's not.
I'm not blaming bureaucracy. It's me. I cannot run my own business. I tried it once already, in the Chicago market, which should be plenty big enough for anyone with an iota of business ability, and it didn't work out. It was a dismal failure. Nobody wanted to hire me. Nobody wanted to refer me. I couldn't get the customers. Therefore, I must have zero business ability--not an iota; zero. If a bunch of money magically dropped into my lap to start a business, I would still have to hire someone else to get me customers. But without already having a customer, I could not afford to hire that person. Easier all around to just find a person that does that already and be their employee.
Do you understand this? Can you fathom how a person might have one valuable skill and be completely unable to exploit it alone? What would you say the difference would be between an aircraft designer that worked as an employee for Boeing or Airbus and one that sold mail-order kits to hobbyist pilots? The former has a whole bunch of people multiplying the value of their labor, and probably gets a smaller share of the gross revenue. The latter might get 75% of their sales, and still make less total.
Besides that, people don't like me. You may underestimate how important that is in the realm of economics. People prefer to give money to other people that they know and like, rather than the people they don't. I know there are loads of resources out there on how to get other people to like you, but it seems like they all rely on some secret sauce that I just don't have.
Throwing the baby out with the bathwater, if I've ever seen it.
I most definitely want to disincentivize startups that lure people that likely don't yet know any better to move to one of the highest cost-of-living markets in the world, to work long hours in exchange for empty promises and unicorn-lottery tickets. If you actually need top talent, you can pay for it with cash. If you can't get enough cash to pay for it, that might be because investors don't believe you can do what you say you can do, and they might be right.
There are plenty of startups that don't resort to flimflammery to attract employees, and many of them are forced to bootstrap on slim margins and angels because their model will never make them a unicorn, and certain types of investor are only attracted to the high-risk, high-reward ventures. That may be because the rules around the current system provide additional incentives to have that preference. Changing the rules might change the preference.
It is my personal preference that businesses that quietly fill a niche and make money from day 1 be preferred over those that burn their solid rocket booster at both ends, only to make big flashy explosions that do nothing and go nowhere. But I lack the funds and the risk tolerance to enforce my preference, so it doesn't really matter to the markets at all. But I still have one vote worth of political power, whenever that actually matters.
Bang on. I'm mostly glad that my particular corner of the Midwest doesn't seem terribly keen on aping the SV model of shitty business practices, at least. Small victories and all that.
By and large, taxation of options and RSU at any point will have negligible impact on the SMB sector of the US economy. It's probably very, very damaging for startups if your definition of startup matches Paul Graham's, but if your definition of startup is "new business that happens to use JavaScript for something" this is unlikely to change anything about your day to day competitiveness.
It hasn't loaned me its political power for anything that matters to me, and so for this issue that impacts me not at all, I will not be returning any favors.
The collapse of the 2002 bubble hurt everywhere else far more deeply than SV, with a more painful recovery, so I see anything that might curb irrationally exuberant investment in companies that are not likely to ever benefit rust belt economies as a good thing.
Furthermore, I am more in favor of simpler employee incentives that do not force people to invest where they work. At the income level of a typical tech employee outside of SV and NYC, any investments should likely be buy-and-ignore in a robot-managed index fund. I don't want all my net worth to be tied up in my employer, especially when we have no contract, no real control over its business strategy or tactics, and I can be fired at will. If you want to pay me $X, pay me $X.
What's more happening is that talent is being attracted to mid-stage startups, unicorns, and the big companies like Google and Amazon. Early-stage startups like "Tinder for people with green hair" don't employ enough people across the market for them to significantly impact it.
I don't think this is about government fighting against stock-paying companies for tech workers by fucking up RSUs. In reality it's probably just government incompetence. No need for strawmanning or conspiracy
This clause wasn’t in the House version of the bill. Call your senator.
The majority of HN readers are going to see a net increase in taxation, to fund giveaways to the GOP's donor class.
The bill gets rid of AMT, which many HN readers have been hit by, thus helping them. It also increases the standard deduction, which helps lower income people much more than higher income people.
I don't like the plan because I pay more under it, but the value of the giveaways to the very rich seem rather small compared to low income benefits. Lowering of the corporate income tax rate and axing the mortgage interest deduction has broad support from economists across the political spectrum too.
NPR had an interesting piece on this in 2012:
https://www.npr.org/sections/money/2012/07/19/157047211/six-...
Edit, great chart showing who pays more / less: https://www.marketwatch.com/story/here-are-the-winners-and-l...
Good article from Pew Research on this: http://www.pewresearch.org/fact-tank/2017/03/07/employment-v...
"As many observers have pointed out, the official unemployment definition leaves out some significant groups. The underemployed – part-time workers who would prefer to work full-time – are counted among the employed. And discouraged workers – people who’d like a job but have stopped looking because they don’t believe any work is available – aren’t counted as part of the labor force at all."
Deferred compensation plans are something else entirely; they're a way to say "hold back part of my salary and invest it in a 401k-like thing, and give it to me later". (Such plans are non-qualified and not backed by anything other than the credit of the company, unlike a 401k, so not something you want to do if you have any doubts in future solvency.)
In fact, you could, in theory, bankrupt someone by giving them enough shares.
I think they may have changed this for small enough companies, but still, it's a bad thing aimed at taxing middle classes not the rich. The rich don't earn shares as part of payroll, I imagine.
In Australia or the US? Because they do in the US.
You're right; nobody would want options. So we have to start paying people in actual shares if we want to give equity. Which means you have to give employees way more of the company than deep-pocketed investment bankers who will still invest -- despite their temper tantrums to the contrary -- because there are very few companies that can absorb a nine-to-ten figure investment and do something productive with it.
Just because the system as it exists right now would be destroyed doesn't make this a bad change. The system right now is overly complicated, leads to workers abandoning in-the-money options or staying at a job they hate, and is heavily slanted towards early employees.
But the current model of venture financing is largely dead regardless of whether this change goes through. It's already being replaced by cryptocurrencies / ICOs, which seem like a far more sensible method of issuing restricted stock in excess of the SEC's limitations (since the right crypto / wallet scheme for something like this would not be anonymous). I think ultimately, cryptocurrencies are going to replace RSUs, but the cryptocurrencies that replace RSUs will probably have many of the same governance restrictions as RSUs.
How we treat them for tax purposes is a different problem, but it should make the RSU liquidity problem less troublesome (e.g. you can sell some of your crypto-RSUs back to the company in exchange for ETH/BTC, then convert back to USD and pay your taxes).
People wouldn't want that either; they'd still have to pay tax on shares that were, for practical purposes, worthless at time of issue (and time tax due) and would statistically probably always be worthless.
Under this system, you'd really have to abandon compensation with stock of any sort for non-publicly traded entities.
In any case, the market would be far more liquid. I'm not a huge fan of cryptocurrencies for personal use, but I absolutely think they're going to take over the world when it comes to the money used in investment finance (which is ~99% of the money on Earth).
Valuations would be artificially low if that were the case.
Right now, most post-money valuations are artificially high, which has its own set of problems. These companies are being valued as if they had already accomplished their objectives, and it’s solely because the lack of liquidity allows (and after several rounds of funding, requires) VCs to obfuscate reality and get big valuations that drive big headlines which become self-reinforcing.
In any case, it’s all speculative now, but in 2 years I bet we have this all figured out; and the regulators will probably catch up a few years after Trump is gone. Cryptocurrency has hit the critical inflection point where big banks are building platforms around blockchain. It’s not like this stuff isn’t already core business for Goldman et al.
So what real change do cryptocurrencies bring here?
Making stocks more liquid early on is the last things startups want; if they effectively become publicly traded, the SEC is going to push for a great deal of transparency that will be at least expensive and possibly harmful.
This is also a big gamble if you're given shares in a non-public company. You pay taxes on these shares at vesting - not only have you reduced your liquidity until IPO/exit, but these shares could end up being worth nothing if the company fails.
Does anyone have data on the number/size of round A funding events vs ICO funding? I have a suspicion we're seeing a transfer from one into the other.
https://www.crunchbase.com/lists/recent-funding-rounds/f535c...
And those are mostly just rounds raised today.
Is this true? I thought (perhaps incorrectly, naively) that one of the whole points of private equity being locked down and unable to sell/liquidate was just that - so that it can't be sold/liquidated. Any solution that makes it liquid goes against one of the original purposes, and thus isn't likely to happen.
equity compensation has plenty of risks, which is why the timing of taxes gets complicated. the value of the underlying asset needs to solidify enough (meaning there is a liquid enough market for the equities) that it can be (partially) liquidated and used to pay the tax. but the variance in the liquidity over time is so high that it's nearly impossible to properly predict when the tax man should come knocking on the door.
I mean knowing "many" is different than that being the majority of the cases, and I would strongly dispute that working at a startup is a "low risk" way of achieving some huge financial upside. I in fact remember seeing on Hacker news a few months back (I'll see if I can find it) a study that basically stated that in the aggregate employee stock options at startups aren't worth the risk.
Unless it goes bankrupt or has some other issue and you don't get paid or get fired.
I do not like this idea that startup employees aren't taking a risk. It encourages extremely one sided behavior.
They already are mostly unable to compete with larger companies on total compensation. Startup equity is worthless unless you win the lottery.
https://www.joelonsoftware.com/2008/05/01/architecture-astro...
> Jeez, we’ve had that forever. When did the first sync web sites start coming out? 1999? There were a million versions. xdrive, mydrive, idrive, youdrive, wealldrive for ice cream. Nobody cared then and nobody cares now, because synchronizing files is just not a killer application. I’m sorry. It seems like it should be. But it’s not.
No. Most companies give their employees ISOs, which arent affected by this bill. So it would actually be 0 change to the employees. What this affects is the investors or potentially the founders of a startup
I like Buffett's proposal from a few years ago. They don't grant stock, they simply pay cash (bonuses) and if employees want to buy in, it's their money, after all.
What's really needed is a way some group of insiders in a company can transfer shares among themselves or outsiders. This would probably take a big change in securities laws to create rules around how unaudited equities could be traded. But I keep seeing these stories about AMT, employees leaving who never vest, golden handcuffs, etc., it makes me think we need to make private company stock work more like public company stock, somehow.
Another thought: Zuckerberg has said a few times he doesn't think going public was as bad as people said it would be. Maybe the solution is for companies to become public earlier and have investors operate more like PIPE shops or activists who just hold big chunks of company stock?
Why do startups pay lower salaries than Facebook? Because Facebook throws around $200-300k salaries and doesn’t care. Startups can’t do that, so it promises a piece of the pie if the company becomes big and successful instead.
If you think of a startup as a true "garage venture" with a few people toiling away trying to ship a product, maybe that's the right model.
That isn't really the model for SV entrepreneurship anymore, though, even though we kinda pretend it is. How it works today is, $8 million-dollar "seed" rounds, downtown office space, early-stage companies paying $150k or more for talent, incubators and signaling, etc.
Maybe one of those cases where the game has changed, but our mythos hasn't.
Critical employees have joined us while taking $100,000/yr pay cuts, despite. Having a salary in the six figures.
To think that startups can play that game of “equity doesn’t matter” is just wrong, even in an era of $8m seed rounds. I know HN likes to say “go for cash not stock,” which is a good way to negotiate if you want to avoid downside risk, but if you eliminate stock compensation there’s no way startups can play ball with incumbents. Full stop.
VCs are much much better equipped to do investing: both in terms of skill sets, experience and information. Employees should not be forced to become angel investors just because they work at a start up.
VCs will always have enough money to invest in truely excellent opportunities. It just means, they'll need to invest more. And in this low interest rate world, I don't think the world is starving for cash is it?
It's certainly rational in some cases to take the risk of owning a portion of a company instead of taking the same amount of cash and putting it in the S&P 500. You're always investing your time and money, it's just a matter of where.
And for what it's worth, if you're getting paid $250k at Apple, you can probably go back at almost any time.
And that belief is abused, and the employees get fucked over when it comes time for an acquisition, as their shares get dilluted to hell and back.
I disagree. This is only the case if the options are $50k in cash, or $50k in equity. With startups, the options are $0k in cash or $50k in equity. Startups can wish equity into existence, but they can't magically produce cash.
Recruiting and hiring, after new grad level, is a two way street. You have the choice to accept, deny or negotiate an offer.
I think significant amount of people would be fine with "just risk". They are not fine with risk plus malicious business practices - diluting stocks, delaying IPO indefinitely, creating different tiers of stocks with multipliers, preferential stocks for non-employees, etc.
What's happening now IMO is that the hot talent has figured this out and they have accepted positions at Tesla, Salesforce, Google, Facebook, Apple, or Amazon. That said, I know someone who walked away from a $10M package over 4 years to be the CTO of his startup. I wouldn't have, but everyone has to follow their path, right?
Risk-adjusted, the best way to get returns is probably to take an equity-heavy stake at a post-series-B startup with obvious growth and product market fit.
I agree that if you can get into one of the established companies in the top quintile of the industry you are probably better off than if you joined a startup. I'd hazard a guess, though, that the startup jibs are easier to obtain and more plentiful than those BigCo jobs.
It sounds like Tesla et al. have figured out the market clearing rate for great engineers. Why haven't the other companies also figured this out? There are plenty of other companies with big budgets. And early stage startups could certainly offer bigger percentages in equity (or at least better terms on the equity they offer).
Personally, I'd like that road to always exist and make the choice myself rather than having it disappear from the tech scene completely. I personally know more people that have done well out of startup stock grants than I do earning >$500K in tech.
A lot of the US's problems with share options could be solved with saner tax. It seems bonkers to me that you are taxed when you exercise rather than when you sell.
https://www.inc.com/issie-lapowsky/average-successful-startu...
Let's say you get paid $150K salary for those 4 years of work at the startup vs $300K at BigCo. To break even, you need to close a $600K deficit, that means you need at least 0.25% just to break even with a guaranteed ROI.
Now let's say you're experienced and you're getting $500K at BigCo, now you need ~0.6% just to break even.
Finally, now you're a domain expert and you're getting $1M at BigCo, now you need ~1.4% just to break even.
In my case, I would need at least 2x the listed equity in each of these scenarios to choose the startup over BigCo. I have never been offered numbers like that. I have had CEOs and CTOs get indignant with me over my math though. Math is hard I guess.
However, if you crave autonomy and freedom, I think the message is clear here: be the C-suite at your own startup, even if you have to bootstrap from a place with a lower cost of living. Lifestyle income is a lot easier than building a $250M+ company IMO.
> ... but everyone has to follow their path, right?
That's the thing. I'm sure I could make more in salary from a larger company, but I'm addicted to autonomy, limited amounts of process, and having significant influence on what the company does and on its success.
To the very least, if companies were forced to give out cap tables, or at least, a calculator that gives you your payout based on the company sell out cases, you would be able to measure it.
Right now, the calculation is complicated and obsfucated for employees. Lets say you have 1% of stock and the company sells at 100m. You are most likely not going to get 1m because of preferred shares. Preferred shares are truly a cancer on the system.
But hiding the information is a way for investors to have more leverage over employees. That is an undoubtedly unfair surplus to them.
Its not the only thing I'd change. I would do away with the restriccions of investing in startups as well. That would allow employees to buy stock whenever they want to (and the company is willing to sell them for) without this obscure negotiation. The minimum limits on investing in startups is a way to give higher returns to investors, while harming founders and employees.
Limiting what can be offered is more likely to prevent people from being able to get what they want.
Its possible that investors are very risk averse and so, are willing to pay a big premium for the preferred shares, one that employees are not willing to pay. In that case, employees actually win out on the deal, as they might not be as risk averse (as its only a small part of the compensation).
But in that game, the employee is barred from buying unlimitedly (min 1mm in assets) and also from knowing what everyone else is getting (which investors know).
I cant emphasize how big a loss it is to not let employees invest. Employees know a lot of things investors don't and share that information amongst each other, but can't give market signals because they cant buy or sell or disclose freely. I.E. if you saw a company where employees are all buying shares now, its great for both employees and the general public AND investing in general.
Not only that, but not being able to sell and exchange shares between employees means you cant hedge bets as employee. For example, you could pool a bunch of startup shares that way. Thats only for investor groups today.
Sometimes when I think the US is supposed to be the pinnacle of economic liberalism, I shed a few tears.
For anyone curious, here's a good explaination: https://www.capshare.com/blog/how-preferred-stock-affects-th...
They basically shift a lot of downside risk from the preferred share owners (usually a VC firm I guess) to the founders and employees in the startup, which in theory makes them more likely to invest in more startups. But in the long term, this seems like it consolidates captial (which is generally a bad thing IMO).
It seems as though it just makes investing in any startup that's expected to at least be acquired at some point a 'risk-free' investment.
Anyone have any thoughts on why this might be a good thing?
People have their own assessment of what is valuable, and getting exactly what they want means they are willing to part with as much utility. A person that loves sandwiches with blue cheese is willing to pay more for that cheese than he would with the a regular sandwich.
The existence of blue cheese sandwiches is moderately irrelevant to the existence of regular sandwiches. And banning them would only increase the price of regular sandwiches and also make those people less happy. Less sandwiches would be sold.
Preferred shares don't really hit common shares. If you knew exactly how it went, then you would make an assessment of the value of the shares as they are. Your internal valuation of sandwiches will adjust to the existence of blue cheese sandwiches.
The reason why they feel unfair, and they are unfair in this sense, is that the guys with preferred shares know what they are getting, and you dont. And also, as an employee you dont get to buy preferred shares. If you dont know the price of blue cheese sandwiches and you can't buy them, you will find them unfair. Banning sandwiches is not the solution to the problem.
I think you're right that transparency is a big problem here. As long as others have perfect knowledge of the situation, they can factor the extra risk into their negotiations (e.g. Ask for more equity, because common shares are worth less if there are others with preferred shares).
The terminology surrounding this is quite misleading too - as you mentioned in the grandparent, having 1% of a company sold for 1M, doesn't mean you'll get 10k, which is pretty weird. Not sure what the solution is though - maybe it's just for everyone to be aware of how preferred stock works and make the cap table public.
It would also be nice if there were a standardised way for a company to say "We won't offer preferred stock for at least X years". Something like that would make me much more confident in taking equity in a company. Which, in principle, is actually what I want to do - but all these kinds of tricks essentially mean I can't (because I can't properly estimate the value of what I'm offered). Public cap tables would help, but wouldn't protect against future investment rounds with preferred shares.
Today we have a lottery where we dont know the winners and so they are protected. I dont have animosity against investors for protecting their gains, that is fine (for them, ofc, but they are reacting to their incentives).
The main reason cap tables are hidden is because the only person that can buy shares is an accredited investor, which means the company has to cater to them, not to capital.
If you as an employee were able to buy and sell the shares with liberty, companies would almost immediately make cap tables public to get cheaper funding from the general public. Suddenly, investors capacity to ask for things like privacy and preferred shares would dissipate: there are millions of employees in the bay area alone that would pour considerable money into it.
Increased capital means less concentrated gains, larger absolute gains, considerable increase in wages and overall greater investing efficiency.
What do you mean? Of course this is public knowledge. Anyone accepting an equity grant as an employee who doesn't know this isn't doing their due diligence.
Asking about the cap table of a small startup while interviewing is an entirely reasonable thing to do, and I've immediately discounted an interview at a company where they've been cagey about giving me details. I mean, I'm fine with them not breaking it down into what percentage each investor owns, but telling a prospective employee how much of the company in total is owned by VCs vs. founders vs. employees/option pool is pretty uncontroversial.
> If you as an employee were able to buy and sell the shares with liberty, companies would almost immediately make cap tables public to get cheaper funding from the general public.
This doesn't really make sense. You've just described a publicly-traded company, and obviously an early-stage startup can't afford to be one of those.
Really. Can you tell me what were the employee gains of facebook, google and twitter on stock divided by the market compensation at the time that the engineers got? Where the engineers back then at every single founding round making a proper decision based on the information they had?
Please.
> Asking about the cap table of a small startup while interviewing is an entirely reasonable thing to do, and I've immediately discounted an interview at a company where they've been cagey about giving me details. I mean, I'm fine with them not breaking it down into what percentage each investor owns, but telling a prospective employee how much of the company in total is owned by VCs vs. founders vs. employees/option pool is pretty uncontroversial.
Its not always available on the decision for the employee. The cost of acquiring that information is orders of magnitude different from the employee than the founders/investors. Its still asymmetry of information, even if it is provided, which it isn't always. In any case, if thats what you believe, then you would have no concerns of making it public, since it already is.
> This doesn't really make sense. You've just described a publicly-traded company, and obviously an early-stage startup can't afford to be one of those.
Why cant it afford to be "one of those"?
Of course I can't, but a) why would _I_ personally be able to, about companies I've never been financially tied to?, b) that's not really the point. It's exceedingly rare that anyone outside of an institutional investor, founder, or non-founding C-suite exec will get 10% (or even close to that) of the proceeds at IPO or acquisition time. If that's not common knowledge to anyone who has either worked at a startup and/or has done a minimum amount of reading about startup equity grants, then I guess I don't know what common is.
> Please.
Mind keeping it civil? That kind of dismissiveness is rude and uncalled-for.
> Its not always available on the decision for the employee. The cost of acquiring that information is orders of magnitude different from the employee than the founders/investors. Its still asymmetry of information, even if it is provided, which it isn't always. In any case, if thats what you believe, then you would have no concerns of making it public, since it already is.
I'm not saying anyone makes it public. Asking questions like these is pretty basic advice when receiving an equity grant, and companies that I actually respect give a reasonable answer. No, they're not going to open their books to you, but they'll give you enough information to at least be useful.
> Why cant it afford to be "one of those"?
The cost to IPO (assuming the unlikely event you can find a reputable bank to underwrite) would easily eat up any funding you've gotten in the beginning, and then some.
It's a ludicrous position to say that because the rules of hidden information are known, there would be no effects in the information where to be known. I can't fathom making the argument that because there is potential access to information, its the same as the information being public being done in good faith.
> I'm not saying anyone makes it public. Asking questions like these is pretty basic advice when receiving an equity grant, and companies that I actually respect give a reasonable answer. No, they're not going to open their books to you, but they'll give you enough information to at least be useful.
If its useful to collect it and for the investor to know it, it's useful for the employee to have access to it, and it is also useful for the employee for the general public to have access to it. An employee is woefully unprepared to make an analysis in comparison to investors, even if the company disclosed 100% to their employees, there would still be asymmetry of information.
There is no extra effort for the startup. Just disclosure.
> The cost to IPO (assuming the unlikely event you can find a reputable bank to underwrite) would easily eat up any funding you've gotten in the beginning, and then some.
The cost of an IPO is made up. If there is anything showing that clearly, is the craze for ICO's.
The scenario this is trying to block is that entrepreneur raises $1mil for 10% of the company, and it's flipped tomorrow for $5mil. The investor gets 500k=50% loss in one day. It's completely reasonable and fair IMO that an investor should want protection in this case.
What's not reasonable is the way silly SV journalists treat preferred as equivalently-valued as common. It's not, it's worth a lot more, making it incorrect to say that "10% of company is 1 mil => whole company worth 10 mil" when that 10% is preferred. It's probably more like 5 million, or 6. Because that downside protection is _worth something_ so those preferred shares by rights, are worth more than common.
I'm torn on this. I agree that, in general, capital consolidation isn't a good thing. But you have to consolidate somewhat. If a startup founder has to deal with 100 separate investors to put together enough cash for an A round, that's a huge problem. Consolidation of some amount of capital into VCs helps with that.
The VCs, when it comes to money, are also taking on much more risk than the option-granted employees are taking on. As a sibling poster mentioned, though, you really need to make a distinction between participating and non-participating preferred stock. The former is super bad for founders and employees, but these days it seems like the latter is the norm, except for perhaps in medical/biotech startups. It gives the VC a better chance of recouping their initial investment in the case that the company sells for an unfavorable amount. If the company is successful, they'll almost certainly convert their shares to common and take no more of the pie than they're entitled to.
Most option/stock agreements give the company right of refusal and they can block sales
>They don't grant stock, they simply pay cash (bonuses) and if employees want to buy in, it's their money
Doesnt work for private companies, there's no market to buy them in
> Maybe the solution is for companies to become public earlier and have investors operate
I've recently been thinking about the ramifications of more and more of our economy being privately traded. It means that many groups of people are unable to use that slice of the economy to back things like retirement funds. Also can technically lead to a run on equity where folks are trying to save but are just competing over the same limited pool of assets. Articles like [1] are indicating that the number of IPOs per year are dwindling. Maybe a law that says companies valued over $THRESHOLD must be public?
[1]: http://fortune.com/2017/01/20/public-companies-ipo-financial...
> Doesnt work for private companies, there's no market to buy them in
Personally I'd like to see more employee profit-sharing arrangements. Difficult for a lot of companies though that run at a loss for years.
The relevant section is as follows: "To say “stock-based compensation” is not an expense is even more cavalier. CEOs who go down that road are, in effect, saying to shareholders, “If you pay me a bundle in options or restricted stock, don’t worry about its effect on earnings. I’ll ‘adjust’ it away.” To explore this maneuver further, join me for a moment in a visit to a make-believe accounting laboratory whose sole mission is to juice Berkshire’s reported earnings. Imaginative technicians await us, eager to show their stuff.
Listen carefully while I tell these enablers that stock-based compensation usually comprises at least 20% of total compensation for the top three or four executives at most large companies. Pay attention, too, as I explain that Berkshire has several hundred such executives at its subsidiaries and pays them similar amounts, but uses only cash to do so. I further confess that, lacking imagination, I have counted all of these payments to Berkshire’s executives as an expense. My accounting minions suppress a giggle and immediately point out that 20% of what is paid these Berkshire managers is tantamount to “cash paid in lieu of stock-based compensation” and is therefore not a “true” expense. So – presto! – Berkshire, too, can have “adjusted” earnings."
Full pdf: http://www.berkshirehathaway.com/letters/2016ltr.pdf
I guess the difference is that big scaled companies have revenues, and cash, whereas small companies don't. But I don't think that's so true anymore in a time when companies are doing nine-figure investment rounds. I'm not saying it's typical, but I do think this model of "bundled options+cash" has got to go.
For the big companies it's pretty easy. They're largely RSU based. Shares are vested/released. Many companies allow full autosale. Easy. Even in the case of selling enough shares to cover withholding your still left with something very liquid.
Options in public companies are in basically the same boat.
The tricky one is early stages startups.
If you have options that have an exercise price at or over market value then you can take a Rule 83(b) election to defer your entire tax liability til exercise.
If the exercise price is below market then that would mean paying tax on the entire grant even though you may never receive it. Easier option for founders than employees.
Either way it doesn't cover grants along the way.
I do think it's a reasonable complaint to get taxed on something you can't liquidate.
So two things jump out at me:
1. Issuing RSUs in a non-public company send like a bad idea. Does anyone actually do this?
2. The vast majority of tax revenue would come from FAMGA shares which are already taxed so what's actually going to be gained by this? Or is executive compensation (ie ISOs) able to get favorable treatment already? This reason sooner makes it seem like a bad idea.
EDIT: an answer to my own question (emphasis added):
https://www.recode.net/2017/11/12/16640530/uber-peace-deal-r...
> Under terms of the deal agreed on, those eligible employees with stock options are capped at selling half their holdings (and those with restricted stock units cannot sell in this round).
So apparently some Uber employees have RSUs and Uber obiously public or liquid.
One way to sidestep this would be to force the taxing authority to take some of the options as payment, rather than cash. You've been granted 100 options at a value of $x each and the tax rate is 20%? Just give them 20 options. That way it doesn't matter what x is or whether the market is liquid!
That said, in the broad scheme of things it still seems workable. Startups may have to get used to also providing assistance with taxes for their initial employees. Honestly that's already not a bad idea even in the current environment.
So there's no real reason that we couldn't have a more elegant and streamlined process, but you're right, we won't.
If the IRS are going to say that 100 options are worth $100x and charge tax based on that then they should be willing to accept 20 options in lieu of $20x.
The fair market value of something is whatever you can sell it for, not what someone says it’s worth. Taxing something that can’t be converted to tangible value is just wrong. They are basically taxing potential and not reality. They are taxing the egg based on what the resulting chicken might be worth.
Most companies issuing RSUs are doing so because there is a public market for them and so the release and vest date is the same.
We offer stock grants (basically RSUs without a formal vesting schedule) to key employees at my firm and have had no issues. You say that there are issues with the vested stock not being liquid, but the issuing employer can simply offer to buy the shares back if needed at fair value if liquidity is needed, which we determine according to a formula which inputs the firm's balance sheet and trailing profitability.
This has the advantage of being very straight forward, both to the owners as the issuing party, and the employees -- but has the cost of being disadvantaged by the tax code.
Contemporary startup options packages are anything but that. Most of the time neither the employee receiving them nor the HR person explaining them has any idea how they really work -- but for all that opacity, they get a preferential tax treatment.
It's probably worth pointing out that the only reason startups rely so heavily on option compensation as opposed to simple equity grants are for the reasons above: they are tax advantaged, and the employees have no idea what they're getting. I wouldn't mind seeing the startup world return to a more easy to understand scheme.
Ok. I wouldn't panic here. Calm down.
How shares are vested is up to the board. So, if this were to pass I would just walk into the CEO's office with a few employees and ask to change how shares vest to: "Upon the vesting schedule AND a written letter from the employee requesting vesting. If the letter isn't submitted the shares are not vested." So, if I don't send a letter to the board the shares do not vest. If I want to vest 12 months and leave, I would just submit the letter. Problem solved. How shares are vested is totally made up. You could have them vest when you wear a purple shirt on tuesdays.
I the case of a private company, RSU vesting/delivery means you owe taxes but (usually) can't sell them to pay for it, which is (also) no different from today.
It's like if a company receives a bill for something they bought in 2016, but don't technically pay it until 2017, the bill would still show up in their 2016 reports.
if a company receives a bill for something they bought
in 2016, but don't technically pay it until 2017, the
bill would still show up in their 2016 reports.
(Any big company will be using accrual basis, though.)
In these arrangements, the recipient is agreeing in advance to accept equity as compensation. The company must account for that essentially as if it were cash, and it becomes an income statement item just like any other compensation expense.
The economic event, for both the issuer and the recipient, is the moment when there is no material risk of forfeiture. In simple terms: if the company can't take them away from you, they are yours.
As that's only applicable to publicly traded companies, I don't think this bill is a good idea. I think the start-up world's use of options and equity is not healthy, but there's a big difference between a person whose options/equity grants are a relatively small fraction of his compensation and true stakeholders/executives who have a significant fraction (often the majority of it) of their compensation in the form of equities. The tax code shouldn't treat these workers the same.
The way it works in my business is: you have regular ISOs, you vest, you leave, we convert to NSO and give you 8 years to buy them. You're not vesting anymore, so you sidestep the vesting tax associated with NSO, and you pay the cap gain in 8 years. This is the most employee friendly way to structure things as not everyone has liquidity to deal with what they have earned (both buying the grants and the tax associated with buying the grants).
Under the new plan, the rule around NSOs being taxed per vest (remember when you leave you're not vesting anymore) will be applied to all types of employee stock option compensation. That's madness. Personal opinion: On the plus side, maybe salaries will go up and stock grants will go down (imo unhealthy). It will also push more 409a. :\
(Edit- My COO says: julie [11:57 AM] that provision is already being softened in the latest amendment btw)
Upon leaving the company, they would have 90 days to exercise options. If they'd been there for a couple years during the fast growth phase, it's possible they had (e.g.) $500k in options with a strike price at $10k. Uber prohibited secondary market sales, so if you exercised your options, you had to hold on to them until IPO. However, you;d have to pay taxes on the gains on those vested options despite being unable to sell them. Suddenly you were on the hook for $171,500 in taxes ($490k * 35%) plus the $10k to vest as you quit your job -- or else lose out on $318,500 in value on those options. It led to a real golden-handcuffs situation where engineers couldn't really leave without walking away from fortunes.
Unfortunately, this applies to every successful startup that issues options (instead of RSUs). It's not just Uber.
After Facebook learned this lesson the "hard" way[0], that's actually pretty standard. Every startup started within the last 5+ years has this same provision in their options, if you read the fine print, and older companies all amended their option terms for new grants.
[0] hard way for Facebook, not for the employees.
It would also break the machine that mints new angel investors. A huge percentage of angel investors are people who got rich off options/stocks in growth companies.
This really seems explicitly anti-entrepreneurship and pro incumbent mega-corp.
Of course it also might have another (possibly unintended and not all bad) side effect: to drive startups out of Silicon Valley and other high salary high cost of living enclaves. A startup can offer very competitive salaries in many other places. Put a startup in Ohio or Michigan and $80-$100k can get you the best talent available on the local market... especially if you also offer much more interesting problems to work on than the enterprise salt mines that tend to dominate IT employment in those places.
Not to go on too much of a tangent, but: the fact that companies think they're competing with Facebook and Google for the same tiny pool of people, and that that tiny pool of people is the "top talent", is one of the big problems in our industry.
See things like this article:
https://danluu.com/programmer-moneyball/
Or this comment:
Equity in a startup is effectively deferred cash compensation, in practice. It would be good to eliminate the complexities of option valuation, exercise concerns, and taxation issues from the list of worries of regular employees.
Better solution: the US tax code should eliminate the short-term/long-term capital gains distinction and just copy the model used in Canada (and elsewhere, I'm sure): capital gains are taxed as ordinary income at a rate of 50¢ on the dollar. So $2 capital gain is equivalent to $1 of ordinary income. The usual rules apply for day traders and such where their "capital gains" are active rather than passive income. The rate doesn't have to be 50 cents - it can be 40 or 60.
Vesting has the unique property that before it occurs the shares are not yours and after it occurs, they clearly are (and can't be clawed back).
If you don't tax vesting, are you going to instead wait until the shares are sold to tax them? That would be very easy to abuse.
> If this provision becomes law, startup and growth tech companies will not be able to offer equity compensation to their employees.
Nothing stops you from offering it. It's up to the potential employee to accept it, weighing the possible tax liability.
> We will see equity compensation replaced with cash compensation and the ability to share in the wealth creation at your employer will be taken away.
In the vast majority of cases startup equity isn't worth the paper it's printed on. Paying their employee bonuses with cash would be a net win for their employees. The "losers" in this situation are established companies that arguably are already in a good position to pay out bonuses in cash (or at least include a cash component to cover taxes).
> This has profound implications for those who work in tech companies and equally profound implications for the competitiveness of the US tech sector.
I really doubt that. The talent pool, networks, and legal infrastructure in the USA are second to none. That's not going to suddenly shift because of minute changes to tax law.
Working for a startup is already immensely risky. If there was a practically guaranteed bankruptcy risk as a result of appreciating stock options, no sane employee would work for a startup anymore-- they would all go work for the big companies offering liquid stock. That, to me, is a very profound impact on our industry.
Or do you happen to be British so you use FTSE 100 as a shorthand for what most Americans would use the S&P 500 for?
If you can pay cash you can compensate your employees for the tax change. The losers are cash-poor companies. They will need to sell more shares, earlier, to pay for the change. That shifts leverage in early-stage negotiations from founders and early employees to investors. It also advantages, in the job market, firms with more cash over those with less cash.
> Vesting has the unique property that before it occurs the shares are not yours and after it occurs, they clearly are (and can't be clawed back).
That's not correct. You're vesting 'options' i.e. the option to purchase shares at a certain price. Not shares. Even once you buy the options they are not easily liquidated.
> Nothing stops you from offering it. It's up to the potential employee to accept it, weighing the possible tax liability.
If it makes zero financial sense to anyone why would you offer it?
> In the vast majority of cases startup equity isn't worth the paper it's printed on. Paying their employee bonuses with cash would be a net win for their employees. The "losers" in this situation are established companies that arguably are already in a good position to pay out bonuses in cash (or at least include a cash component to cover taxes).
No, the losers in this situation are early stage startups, and employees who want to work at those companies and get rewarded in the potential upside. At an early stage startup there is no 'cash' to pay bonuses. Even if there was cash, equity comp is incredibly more valuable in a company that sees any kind of success. Clearly you're bearish on equity based comp, so be it, but it has been my experience that equity is the primary avenue people see any financial success in tech.
If any semblance of this gets passed into law, and it effects ISOs, I think it'll be the end of Silicon Valley as we know it.
Why would it be easy to abuse? Surely you can just set the tax basis of those shares to 0?
would you care going in details on why this would be "very easy to abuse"?
In France that's how ISO works:
You have 2 taxable events:
- At exercise-time, calculate the gain here (between current date price and strike price).
- At sell-time, calculate the gain here (between exercise date price and current date price).
However, the first event, you don't owe any tax yet. You only pay the taxes for both exercise-time and sell-time taxes the year you sell the shares.
See the picture on [1] where "Prix d'exercise" = strike price; "Levée des options" = day you exercise the options.; "Vente des actions" = day you sell the stocks.
What is not 100% clear to me there is, what happens if the stock lost value between exercise date and sell date, can this loss offset the gains made on the first taxable event. In my opinion, to be 100% employee friendly, it should. But since the exercise date could have happened years ago, I'm not sure those can be offset since they aren't the same "type" of gains.
Anyways, with this system, in the case the company goes bankrupt and you never sold the stocks, at least you didn't pay taxes on money you never had in hands, you only loose the money you spent when exercising the options. I don't see how this can be abused.
[1] https://particuliers.societegenerale.fr/epargner/gestion_pat...
I live in Greenpoint, Brooklyn. I work for a small startup of less than 30 employees.
Three years ago I left a large, publicly traded tech company to take this job, because of the potential I saw in the work the startup was doing.
I took a significant pay cut when I joined the startup, a decision that was justifiable only because of the distant future value of the incentive stock options that the startup promised me.
It is my understanding that the current tax bills on the floors of the house and the senate would tax these options when they first vest, long before I could possibly sell them to cover my tax bill.
If I am wrong about this, I would appreciate any clarification you can provide, ideally written into the text of the bills themselves.
If my understanding is correct, I honestly don't know how my startup, or other small companies like it, will be able to compete with wealthy public tech companies as we try to hire new employees in an already extremely competitive market.
I struggle to understand how draining talent from the most innovative small tech companies can possibly be construed as a good thing for our economy.
Thank you for your time.
- Highly paid engineer walked away from a 6 figure salary
- Takes a job at a small company where he gets equity that could potentially be worth millions.
- Complains that he may have to pay taxes on a significant portion of his compensation.
Put those together, and you have someone probably still making more than double the national median wage complaining that his favorite tax loophole is being closed. Meanwhile the local plumber / school teacher / single mom is struggling to make ends meet; why shouldn't you pay your fair share so that they can get a tax break?
FWIW, this is just an exercise, I'm not saying this is true. Just something to keep in mind though, that many (most?) of the people on HN are being paid significantly higher than most Americans, and complaining that their stock is being taxed differently isn't going to garner much support.
From page 123:
"However, it is intended that statutory options are not considered nonqualified deferred compensation for purposes of the proposal. An exception is provided for that portion of a plan consisting of a transfer of property described in section 83 (other than nonstatutory stock options), or a trust to which section 402(b) applies, or relating to statutory options under section 422 or 423 for which there is no disqualifying disposition."
https://www.finance.senate.gov/imo/media/doc/11.9.17%20Chair...
RSUs and NQOs would fall under the new definition, and holders would be screwed. I just want to make sure we all have our definitions straight.
I don't object to taxing NSOs at vest time all that much; for rank-and-file employees ISOs are the norm, and NSOs are usually for highly-compensated execs whose grants easily pass the ISO per-year vesting cap. They're the kinds of people who are likely to be able to afford these taxes without liquidity, and who are probably able to take advantage of a bunch of other tax loopholes anyway.
The downside there is for companies that give employees more than 90 days after termination to exercise their ISOs (which by law must be converted to NSOs after 90 days)... I imagine that conversion might trigger a taxable event under these new laws.
Clearly this proposal is targeted directly at private SV and tech companies.
And the mortgage deduction and state tax write off proposals are targeted at California / NY.
Outside of just a big FU from the Republicans to largely Democratic states what is the end game?
E.g. - what are the Republicans actually negotiating for, assuming points like the RSUs are proposed as leverage vs real reform?
That's not the goal but a predictable side effect of a single party emerging with dominance from close to a decade of structural gridlock. Republicans want to give their base, both donor and electoral, a tax cut. The national debt scares many of their constituents. As a result, they have to at least look like they're trying to avoid blowing the deficit. So they send the bill to outside their base.
This wasn't "let's screw our political opponents." It was "let's help our base and stick the bill to our opponents." Subtle, but different.
- Removing state exemptions. This concentrates more control at the federal level and is anti-states' rights which is arguably anti-Republican.
- Mortgage interest deduction removal/lowering the cap. Economists left and right agree this deduction is a huge sop to the rich, who own homes (the poor rent).
- Reducing corporate tax rates. The Economist makes the point constantly that the US's corporate taxes are some of the highest in the OECD and that shareholders, rather than corporations, should be taxed. These high rates also encourage crazy behavior like inversion transactions and tax games with repatriation, etc.
https://www.economist.com/news/leaders/21731166-house-republ...
tl;dr: it's bad, but includes a few good things, and could potentially be improved.
Democrats have become too concentrated as a party in urban areas and so rural voters have gotten enough political power to attempt to address what they view as economic inequities in the current urban/rural income distribution.
Republican have also flipped the script on Democrats and so now they are proposing to tax the "rich" (actually urban middle class) and redistribute that to the poorer rural middle class.
It is funny because conservatives have been warning for decades that redistributionist games don't end well, while the Democrats have been advocating them, but now that the shoe is on the other foot it doesn't seem like such a good idea.
The narrative is that the tax bill is meant to help the rich and the rural red state poor at the expense of the urban blue state middle class.
http://www.taxpolicycenter.org/publications/preliminary-dist...
What’s proposed is punishing the urban rich to benefit the megarich, with a tax increase after less than 10 years for the median household.
Which is very clever if your poor base is willing to go along with it, which appears is the case.
Who cares if all semblance of shared institutions dies in the process, the megarich get their tax cut!
1. As already mentioned, it helps ultra-wealthy and people in red states at the expense of the blue states. But by crippling the tech economy, the govt. would harm their own long-term ability to collect tax revenue to invest in other states. Right now, CA provides more tax revenue than it takes back and this money pays for federal govt. projects elsewhere.
2. Many people would get bankrupted simply by vesting. It's one thing to tax people once they have money. But most options are not liquid. Many people would simply not have money to pay for options that they cannot sell and will not be able to wait for some hypothetical IPO or buyout.
Let's just be honest about what this is: it's a vindictive and cynical move to harm the economies in blue states and only marginally help those in red states, and then only in short term (until the tech economy in the US contracts and moves elsewhere).
If this passes, I hope those who support it enjoy their feeling of revenge, because that's all they'll end up with. The rest of us in tech sector will just find another place to grow our business.
A guy making $100k in Texas ought to have the same exact tax federal burden of a guy making $100k in New Jersey. As it stands now, those two guys pay a different amount to the federal government. That is unfair. A state can raise state taxes will little impact on residents however it results in lower tax revenue to the US government and more revenue to the specific state.
High tax states hate giving up that deduction because they would effectively be giving up a subsidy.
I actually live outside the United States, yet I get to file and pay taxes subsidizing a country in which I don’t even live. Aside from Eritrea, the US is the only country that does that.
Given the vast difference between local economies, this would result in huge disparities in effective tax rate depending on where you live.
For example, a person who makes $100k in Kansas City, MO is far wealthier than someone making that much in San Jose, CA. Taxing them at the same rate is essentially a massive tax break for one and not the other.
The SALT deductions account for this.
I suspect you say this with the belief that things like state/local tax deductions are unique in how they cause the same income to pay different tax, but that's simply not true, and there's precedent littered across the federal tax code that enables this. Consider simple things like dependent exemptions and the difference between filing status (single, joint, separately, head of household) that can change how much tax you owe even if you earn the same income.
And the guy in Texas has more money in his pocket than the guy in New Jersey no matter what. It's a weird thing to get hung up on. Nobody ever talked about the fairness of this deduction before. This was cooked up as a GOP talking point in some smoke filled room somewhere. Class envy as a Republican tactic is a curious development.
California is able to spend my state taxes on things that I want, and the federal government gets to not pay for those things.
Texas has to spend federal dollars if they want similar things. Their options are either to not have nice things, or to spend more federal dollars than California does.
That's what the deduction attempts to account for.
I would bet that this is the end game. The entire tax plan seems targeted at "blue states," which already pay more Federal taxes per capita than "red states" when adjusted for Federal inflows.
At some point people will start asking: "why should we remain part of the USA? What do we get from Washington?"
I would not be surprised if the USA were to fragment by mid-century. The level of regional polarization we have today is unprecedented since perhaps the civil war.
Edit: I have a friend who's a little bit conspiracy inclined who thinks there's an agenda to fragment the USA. I find it hard to totally dismiss this notion given how politics is being played. There is definitely a far-right agenda to fragment the EU, so it's not an absurd notion.
I'm sure targeting wealthy coastal liberals is a feature for many Republicans, but as nearly every economist will tell you the mortgage interest deduction really is awful and should be nuked from orbit. It's probably the most intelligent thing this Congress has proposed, even if it is by accident.
Conversely, taxing at exercise time doesn't really make sense for illiquid gains and more than vesting time does. People have problems with this now.
The real challenge would be to fix this without creating an incentive to keep gains illiquid when they could be liquid.
Edit: Now that I think about it those numbers don't work because it's an extra cost for the company to buy back your stock. So you end up with fewer shares with this scheme, but the company has also effectively paid off your "golden handcuffs". So in some cases it should even out in the end (you don't pay those taxes in a liquidity event) and in other cases it's actually better for the employee (you can afford to keep more of your equity if you leave before a liquidity event).
Incumbents write PAC checks.
I'm not sure what he means with regards to RSUs.
When my RSUs vest, I am taxed on them currently. And I can do whatever I want with them. My employer gives me RSUs with a 4 year vesting period - a quarter vests every year. And every year a quarter of those stocks are given to me to do whatever I want with them.
Perhaps he was referring to something other than RSUs? Or it is only relevant for private companies (which all startups are)?
I still think with options it should be as you've pointed out a tax-free event until you actually sell the equity for cash.
Well, except that the IRS also has a say in this as well. The IRS won't let companies issue ISOs with no expiration date like that; if the company tries, they'll be treated as NSOs for tax reasons, which defeats the whole point.
There was actually a bill last year that would have fixed this specific situation (taxation of ISOs for startup employees in a way that doesn't expire 3 months after termination), but the Senate Democrats blocked it, because they branded it as a "tax cut for the wealthy".
How does that defeat the whole point? The entire point of ISOs is that you can exercise without being taxed immediately. After leaving a company, I would much rather have NSOs that I can hold onto, unexercised, until after a liquidity event when the alternative is having nothing.
(I mean, really, though, overall the need for ISOs is ridiculous: the US is insane for taxing unrealized gains in the first place.)
Not exactly - you're still taxed, but only via AMT, not regular income tax.
> After leaving a company, I would much rather have NSOs that I can hold onto, unexercised, until after a liquidity event when the alternative is having nothing.
Sure, but that's not really an option either. NSOs also expire (and again, the requirement for having an expiration comes from the IRS). So if the liquidity event takes too long to happen, you might still end up with nothing. There are a number of companies that are already bumping against this problem.
> (I mean, really, though, overall the need for ISOs is ridiculous: the US is insane for taxing unrealized gains in the first place.)
That's not what's happening. ISOs exist in order to allow companies to provide shares to employees below market rate at the day they vest. The difference between market rate and the actual rate paid is taxable, because that does represent a gain realized.
This is only a problem for companies that expect to grow rapidly (ie: startups). If the growth rate is low, the spread isn't large enough to hit the thresholds to be taxed - or, if it is, not large enough for those taxes to be burdensome. But since startups plan to grow very rapidly, everyone (from founders and early employees to late-stage-but-pre-IPO employees) get the short end of the stick.
Well, sure, but that's not always the case, and I don't consider that regular taxation. (I'm well aware of AMT rules, having been subject to paying AMT the past two years due to this exact issue.)
> NSOs also expire (and again, the requirement for having an expiration comes from the IRS).
So what? I'd rather have an NSO that expires many years down the line (a figure I see from a lot of companies that do that conversion is 7 years, which is usually plenty) than nothing.
> That's not what's happening. ISOs exist in order to allow companies to provide shares to employees below market rate at the day they vest. The difference between market rate and the actual rate paid is taxable, because that does represent a gain realized.
Not sure what you mean. NSOs behave in the same way wrt to what the company can offer, and as to what's taxable; ISOs just allow you to defer that taxation until sale (aside from the aforementioned AMT annoyance), and also (assuming you make a qualified disposition) treat the entirety of the gain from the strike price as a long-term capital gain. (See https://www.theventurealley.com/2016/10/isos-vs-nsos/)
The most obvious thing that I can currently think of is just that maybe the startup just doesn't have that much cash in the initial stage, so raising wages to even higher would just bankrupt it, while options is something that would only cost the company money if ever it actually succeeds, thus it can afford to give options away. If one thinks of it in that way then maybe it would make slightly more sense?
http://bakerxchange.com/rv/ff0034eed7a7d447f644f491d94caddcb...
Good. This entire industry is a lottery. We all laughed at the slot machines in the hospital in the movie "Idiocracy". "You could win free health-care!" And yet we're all hoping to win a life of luxury on the start-up lottery.
So a new model has emerged: cryptocurrency tokens. While ICOs are often scammy, for startups whose business model fits in the form of a currency, this is a better way to reward employees. Liquidity and actual ownership rights... and "vesting" is easy-- just issue them a fixed number per month.
If you can easily sell them for a price it makes sense that you pay tax on it.
Do you get to claim them against your taxes?
If so, given the rate of startup failures, this may be of net benefit to most startup employees.
With this in-mind, why is there such outrage about taxing option and RSU income? It's still income. And the current situation could not be described as anything but a tax break for the "wealthy," at least insofar as Obama liked to define people as wealthy. It's an asset that you receive in connection with your labor. It's income. And you don't have to pay income tax on it (iirc, it's mostly cap gains when exercised). And it's mostly given to people who already make $150k+ a year anyway.
I cannot reconcile this outrage over still having a tax dodge (but not as good of one) with the political leanings of SV.
For private companies, that's not an option, so you would have to pay tax at vesting time for options you could quite possibly never have an opportunity to sell.
Imagine starting as a senior-level manager at a company that's a few years into its life. They provide you with a salary of $150k/year and 100,000 options at $1 with a standard four-year vesting schedule. In the first year, the company's fair market value increases to $2/share. Your tax liability just increased as though you made an extra $25k, so you'll need to come up with ~$8k to cover.
If the company sees its value increase 2x per year for all four years, you'll be on the hook for taxes on $675k having only made $600k in actual dollars. Good luck scraping together taxes to cover adjusted income of $525k in year 4 if the company doesn't go public.
If the fair market value falls after you vest but before a liquidity event, you never saw a penny of extra liquid assets but still had to pay tens or hundreds of thousands in taxes.
This will bankrupt people.
That sounds no less fair than a family liquidating its estate because they can't afford the estate taxes.
That sounds no less fair than a health-conscious person taking care to never drink or do drugs paying 10x more for socialized healthcare to pay for the ailments of an obese alcoholic.
I doubt I need to go on, but the point is that taxation sucks. And it's completely hypocritical of someone to want to levy these burdens onto someone else while they themselves become indignant over a tax loophole of theirs being tightened (not even closed). It's even worse that the people who are getting indignant over it are some of the wealthiest in the United States, while at the same time, you want to stick a guy who earns $50k a year with an extra $3k with the ACA.
I do admit that the story you provided sounds like it sucks more than average, but in reality, a bank will just give you a loan to cover the taxes. No one is going bankrupt. And if the shares end up going to zero, you get to have capital carryover losses just like everyone else whose investments lost money.
But the point is that taxes, when you actually have to get down to it, suck. And if you're being truly democratic, you should try to empathize with all taxpayers in the same way that you think about your own taxes.
In practice what this means is that maybe you get granted $1 million in RSUs by the private company you work for and pay hundreds of thousands of dollars in taxes. The private company goes bankrupt and never goes public or get acquired and the RSUs become worthless. You don't get those taxes back and you never got the $1 million.
There is no outrage, or even opposition to taxing income from selling options and RSUs.
The problem arises because in some situations options and RSUs are considered "income" as themselves, not a potential to make income when they are sold.
You get some options in an early-stage startup, and have to pay tax on that. But you can't actually sell your options - there is no market, and often you aren't even allowed to sell them before the company is acquired or goes public. There is still a good chance that the company will go bust before either of these happens.
So you have to pay a tax bill years before you actually earn income, and potentially without ever earning income from your options.
Certainty of future value is not a requirement for something to be considered income. You get paid in dollars all the time, but that's just an asset with fluctuating value.
There are several loopholes that get around the definition of income to defer or avoid taxes for certain types of income, but that's exactly what this is: a loophole for the wealthy. And I have no problem with SV employees enjoying tax breaks. I just can't reconcile SV's love of taxing other people, avoiding it for themselves, and still claiming this is a moral, rather than selfish, stance.
- Provide compensation through LLC membership units which vest but have no value at the time of grant. - Allow early exercise of options when the spread is zero.
There should be no liquidity crunch.
Employee A has 40,000 shares of stock granted upon hire, vesting 25% per year. So on year 1, they vest and have to pay taxes on 10,000 shares. Say those shares are valued at $25 per share. In a public company, you could just sell $25 of those shares and be left with 7,500 shares. At the private company, under the new rules, you'll have 10,000 shares that you cannot sell, but still be liable for paying tax on $250,000.
Those shares may never be liquid, and this rule can and will bankrupt people.
May not be as effective as calling - but certainly quick/easy.
Part of the new tax plan seems to be trying to lower the tax brackets, in exchange for preventing people from avoiding taxes. That's why it seems to be doing things like taxing these options and the free food some companies supply their employees.
It isn't clear why income shouldn't be taxed just because it's supplied in a different way.
It’s already taxed when I sell them - when I get dollars that I can spend. Taxing before then is (I hope) an oversight.
This is a long standing question. Are costs of benefits like these one not taxed in the US?
The implications of not taxing that is huge.
By that logic, you should have to pay tax on publicly-traded stocks that you own daily, every time the price goes up, even if you don't sell it.
Taxing unrealized gains is insanity. How does it make sense to levy a tax on income that cannot be converted into money?
> Part of the new tax plan seems to be trying to lower the tax brackets, in exchange for preventing people from avoiding taxes.
That's a bit naive, if that's the case. I would never expect people to opt out of legal means to reduce their tax burden.
Is the current proposal meant to tax the RSUs when you are told you will be getting them?