When you are involved at an executive level in the tech space, you quickly become familiar with the word “stock” – stock options, RSUs, Series FF stock, restricted stock, preferred stock, common stock, etc. Usually, you pick up knowledge of these stock categories over time and learn as you go. Even then, it may be difficult to really understand how each type is utilized. This applies to many situations, whether as part of a compensation package, based on the recommendation of your business attorney, or when you begin mentoring and investing in the local technology community.
How do you turn it into a proactive planning opportunity? Understand which type of stock can do the most for you in a particular situation.
One example of this is through using restricted stock. Many think of restricted stock and 83(b) elections in regards to founders when forming a company or bringing on venture capital funding, but there are many more ways it can be used.
- Early employees and executives may obtain similar benefits as founders and should ask for the opportunity to receive restricted stock instead of stock options. Many employees do not realize 83(b) elections are available to them as executives or early employees receiving stock as part of their compensation package.
- Consultants or service providers – when receive partial compensation in the form of restricted stock vesting over a long-term contract. The section 83(b) election can apply to individuals and entities.
- Investors and advisors – when obtain deferred stock compensation in connection with board duties or advisory services provided.
However, it’s important to understand your own risk level. Remember, you are not the founder so you may be more risk-averse in how you consider an equity position as compensation and how you view the inherent risks of making an 83(b) election.
For an in-depth discussion of when the 83(b) election makes sense, check out my article here.
Here are some risks to consider:
- Election 83(b) is irrevocable.
- If the fair market value is greater than the grant price, you may experience a current year outflow of cash.
- If you must forfeit the equity, you can’t get the cash back from the government for tax previously paid.
- If the price decreases, you may realize a capital loss when you sell it, but you’ve already recognized ordinary income for tax purposes.
Some benefits of an 83(b) election are:
- One time cash flow impact at grant and not periodically as vests.
- The capital gain holding period begins at grant date instead of at date vested, so your clock on long-term capital gains treatment begins sooner.
- If equity grant is illiquid and the stock value increases, making an 83(b) election and paying tax now may minimize future personal cash outflows when you are unable to sell a portion of the holdings to pay taxes due.
Note: Many of you have heard of the 83(b) election in regard to restricted stock, so I will not discuss the implications here. If this is new to you or you would like a refresher on the mechanics, check out my example here.
